Today I received an email from an Asirikuy member asking me about a very important issue dealing with inflation. Of course, when you hold a large amount of money in any currency that is not subject to any fixed interest you will tend to lose a part of your investment as the intrinsic value of the currency changes inevitably towards a lower value over time. Currencies are all going to eventually lose value mainly because countries need to have more currency available but don't have the necessary wealth to backup all the currency's value, this leads to a depreciation of the currency and an increase in the value of goods and services acquired with it. On today's post I will be talking about inflation and about how we can trade the forex markets in the long term with hedges against this ever-growing monster.
Generally speaking, inflation is simply the decrease of value of a currency over time caused by a wide variety of factors. These causes include government spending (printing money), large injections of capital from other sources (like it happened with Colombia in the 90's in which inflation reached 18% due to drug dealing contributing at some point 20% of the GDP), etc. Inflation is simply the result of a currency being less valuable because there is more money and less wealth to back it up.
This is actually not bad and healthy economies maintain a certain degree of positive inflation which usually oscillates between 1-3% each year. Having deflation - which is the opposite effect - usually happens during or after a recession where most people are simply not spending any money and therefore the instrinsic value of the currency increases. Lack of spending means lack of liquidity and movement and these of course means lack of business, jobs, etc.
The problem of course comes when you realize that if you hold a certain currency you will be losing X% of the currency's intrinsic value each year over time. So if you purchased a car today for 20K USD, in 20 years this purchase could well be 30K or more. Effectively inflation has the potential to wipe out a substantial amount of your forex gains depending on the amount of money you make and the currencies you hold so hedging against inflation is something most people who hold long term investments in currencies do.
How can you hedge against this problem ? The easiest way to do so is to buy a commodity which has a "non-variable intrinsic value" and hold it for the same time in which you hold your currencies. Of these commodities - the most popular - is gold. Since currencies lose value, they are bound to deppreciate against gold with time as gold will inevitably gain value as the purchasing power needed to get it becomes bigger. So the best thing is to get a hedge of the same value as your investment with gold.
The ideal is to get a 1:1 leverage account and simply invest the same amount in gold so that wild swings in gold can never cause a wipeout. In order for this hedge to be effective you would need to make your yearly additions equal between your currency trading and your gold account in such a way that you increase their value in a similar fashion. This means that your money- when you take it out- will have the exact same value it had when you invested it and there will be no loses due to inflation and substantial gains due to increases in gold's value (which in the end just even out inflation for the currency you used to invest). This investment could also provide you with diversification as the value of gold could be increased by a value larger than inflation due to the demand for gold - in the end - it is a good way to diversify your investments and provide a good hedge against inflationary pressure.
Of course, if you simply cannot afford to do this in the long term there is no problem. The only effect will be that inflation will affect your invested capital to a point where it may lose some value during the course of the next few decades. However, if your average yearly profit is above 20% this loss is bound to be less than 10% of your profits so in the end your forex profits can also account for inflationary loses. If you would like to learn more about my journey in automated trading and how you too can learn to make automated trading systems with a high like hood to work in the long term please consider buying my ebook on automated trading or joining Asirikuy to receive all ebook purchase benefits, weekly updates, check the live accounts I am running with several expert advisors and get in the road towards long term success in the forex market using automated trading systems. I hope you enjoyed the article !