The Forex market, also known as foreign exchange or FX, is considered the largest and most liquid financial market in the world with daily trading volume exceeding $5 trillion and over $1.5 trillion traded every day (Statista). This amounts to over 3 billion trades per day! The FX market has significantly grown over the past few years and many traders on Primamarketcap have made significant profits trading in this environment. But can forex be used as a hedge against inflation?
In economics, inflation is defined as an increase in prices or level of goods and services over time. When central banks like the U.S. Federal Reserve try to control inflation they use monetary policy tools, such as interest rates and reserve requirements. The most common way to measure inflation is by using a consumer price index (CPI). The CPI measures changes in prices for items that consumers typically purchase. This includes food, transportation, housing and medical care. The CPI can also be used to calculate inflation rates. As a general rule, inflation occurs when there are increases in aggregate demand relative to aggregate supply. Aggregate demand is made up of consumption spending, investment spending and government spending. Aggregate supply refers to production levels from firms and workers at current real wages and prices. Firms will produce more output if there are increases in aggregate demand since it means higher sales revenue without any change in costs.
What is currency speculation?
Currency speculation is defined by Investopedia as the act of forecasting currency exchange rate fluctuations to make a profit. While there are many factors that can affect these exchange rates, it is important to note that you must only trade in currencies that you are familiar with and ones in which you believe will appreciate or depreciate over time. If your prediction turns out to be wrong, you could end up losing money rather than gaining it. Therefore, it is very important to conduct thorough research before engaging in any sort of currency speculation. When done correctly, however, forex trading can help increase your portfolio’s diversity and provide you with a stream of income on an ongoing basis.
How to determine if you need forex protection
Inflation is one of those things you never hear about, yet it is quite damaging. When inflation goes up your income goes down if you stay in cash. So can forex be used to protect against inflation? If so, how do you go about doing that and are there better alternatives out there? We take an in-depth look at whether using forex is a good way to hedge against inflation or if there are better options for protecting yourself from rising prices.
The question every trader should ask themselves before trading.
Currencies have performed exceedingly well over time, at least against certain asset classes. The question that every trader should ask themselves before trading is Why am I trading currency?.
If your answer is because you are expecting it to appreciate in value compared to your other investments then you are likely headed for trouble. More likely, you should expect your currency investments to perform more like an equity investment and less like a savings account. This means they may appreciate over time but they will also suffer from short term volatility and drawdowns as well as long term deflation if you are invested in deflationary currencies. So yes, forex can absolutely be used as a hedge against inflation… if you understand how it works and know what risks there are along with the rewards potential.
Yes. The currency market has grown to become an integral part of how investors hedge against inflation. Since currencies are traded on a 24-hour basis and are highly liquid, it’s possible to hedge by shorting or buying long in any currency pair—at any time of day. As inflation increases, currency prices rise; however, unlike traditional hedging strategies, investments in forex do not lock up capital for extended periods of time. This makes foreign exchange hedging an attractive option for both institutional and individual investors who seek ways to protect their portfolios from rising prices without affecting access to cash flow.
Suman(Kul Prasad) Pandit is a graduate from Tribhuvan University with four-year experience in corporate and start-up sectors in UK and USA. Being a responsible & sustainable business enthusiast he is dedicated to business education to solve problems in entrepreneurship and business growth.