For a lot of investors that want to fill their portfolios with certain assets, it is vital that they include diversification to act as a safety net during times of uncertainty and instability with their principal investments. For most market participants, precious metals, especially gold, have been a very reliable portfolio diversifier because it can act as a safety net against volatility if the portfolio and the market in general.
Why use precious metal, as a hedge or a safety net?
In order to know and understand why investing in precious metals like gold is an excellent safety net for your portfolio, let us break down what a hedge is. A hedge is an investment position whose main purpose is to act as a safety net and offset potential gains or losses that may happen to a specific asset within the investor’s portfolio.
With that in mind, gold is seen as an investment safety net in many different situations. The first and the most popular use of it as a source of protection is when people who are into investing, are hedging against currency collapse, especially the United States dollar.
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When the dollar goes down, it will not only become less expensive to keep, but it also increases its market value. According to the report from the World Global Council, the relationship of gold with the United States dollar is determined by the United States-based demand and supple, as well as the status of the dollar as the reserve currency in the global market.
Historically speaking, a weak currency tends to provide a more substantial boost to the performance of this metal compared to the drag created by a stable currency. By holding this metal as a diversification tool when the country’s economy negatively affects currencies, most investors can experience gains from increased value. Not only that, but it can also act as a safety net against world inflation.
It is the second reason why this precious metal makes an excellent hedge. Its flexibility, resilience, and durability in the face of inflation is a unique way to safeguard your portfolio. When the cost of living starts to rise, the stock market usually goes down or plummets. If you are an investor with a lot of assets that are directly negatively affected by the volatile market, you will need something in your portfolio to balance out the risk and gain.
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Over the past decades, investors watch as the price makes huge gains when stock markets are crumbling. It is because when paper money loses its purchasing power because of inflation, gold and other precious metals tend to be priced the same as currency units, and it tends to rise along with other commodities.
On the side note, it has also been used as a safeguard against deflation. Although this circumstance has not occurred since the Great Depression and the 2008 Recession, deflation happens when prices suddenly drop, the economy is in excessive debt, and downturn looms.
Because of the investors make crucial decisions to hoard paper money, and the safest place to hold it is through precious metals. While this circumstance is not always happening, a lot of investors keep their investments in their portfolios on the off chance that another massive deflation takes place.
Finally, this type of investment is used as a safety net when it exists within the investor’s portfolio as a source of diversification. This kind of diversification takes place when the investor holds investments that are not related to each other. Since it has a history of having correlations to stocks and other financial instruments like bonds, it becomes pretty imperative that market players get diversified by owning portfolios that combine gold with bonds and stocks to help reduce both risk and volatility.
How these investments are used as a hedge
Once investors are done hedging with goldin their portfolios, it is essential to know how to use it as a hedge. There are different avenues that investors can go down when implementing it as a hedge in their portfolios.
ETFs or Exchange-Traded Funds
One of the most common ways investors can introduce gold as a hedge, into their portfolio is by investing in Exchange-Traded Funds. It is similar to trading bonds or stocks on the stock exchange, and there are a lot of ETF options to choose from.
Investors in physical gold are usually looking for products that are 0.999 fine. Some of them fit this description, and gold bullion coins are the most preferred among these products. Another option is through rounds, which is similar to coins, but these coins are not legal tender. Another popular option is to invest in bars. These bars come in different sizes so that these products can accommodate different investors – from startup to experienced ones.