Giuseppe Guglielmo @CryptoUser: "𝑰𝒏𝒇𝒍𝒂𝒕𝒊𝒐𝒏, 𝒂 𝒔𝒊𝒍𝒆𝒏𝒕 𝒌𝒊𝒍𝒍𝒆𝒓 𝒇𝒐𝒓..."

Italy

𝑰𝒏𝒇𝒍𝒂𝒕𝒊𝒐𝒏, 𝒂 𝒔𝒊𝒍𝒆𝒏𝒕 𝒌𝒊𝒍𝒍𝒆𝒓 𝒇𝒐𝒓 𝒚𝒐𝒖𝒓 𝒊𝒏𝒄𝒐𝒎𝒆 𝒂𝒏𝒅 𝒊𝒏𝒗𝒆𝒔𝒕𝒎𝒆𝒏𝒕𝒔 𝒚𝒐𝒖 𝒔𝒉𝒐𝒖𝒍𝒅 𝒍𝒆𝒂𝒓𝒏 𝒕𝒐 𝒖𝒏𝒅𝒆𝒓𝒔𝒕𝒂𝒏𝒅 𝒃𝒆𝒕𝒕𝒆𝒓. 𝑾𝒉𝒂𝒕 𝒊𝒔 𝒕𝒉𝒆 𝒊𝒏𝒇𝒍𝒂𝒕𝒊𝒐𝒏? 🤨 Inflation is a general rise in the price level of an economy over a period of time that affects in a negative way you purchasing power. The common measure of inflation is the inflation rate, the annualised percentage change in the Consumer Price Index (CPI). The CPI changes in the price level of a weighted average market basket of common consumer goods and services. 𝑯𝒐𝒘 𝒅𝒐𝒆𝒔 𝒕𝒉𝒆 𝒊𝒏𝒇𝒍𝒂𝒕𝒊𝒐𝒏 𝒂𝒇𝒇𝒆𝒄𝒕 𝒊𝒏𝒕𝒆𝒓𝒆𝒔𝒕 𝒓𝒂𝒕𝒆𝒔 𝒂𝒏𝒅 𝒕𝒉𝒆 𝒃𝒐𝒏𝒅 𝒂𝒔𝒔𝒆𝒕 𝒄𝒍𝒂𝒔𝒔? 📉 There is a general tendency for interest rates and the inflation rate to have an inverse relationship. In general, when interest rates are low, the economy grows and inflation increases. This is mainly due to the possibility to borrow money at a lower cost and invest it. Conversely, when interest rates are high, the economy slows and inflation decreases. Central Banks work to keep the inflation rate close the 2%, which is considered an optimal target to keep prices stable and allow the economy to grow in a healthy way. Anyway when the economy starts to overheating, they can increase interest rates to curb the inflation and stop a too rapid reduction in purchasing power. Here is why a rise in the inflation rate can drive, at least in the short term, an increase in interest rates. If you are a bond investor, this could be bad news. An increase in the inflation rate tends to erode the nominal interest rate of your bond according to Fisher Equation. Let’s assume your bond is paying a nominal interest rate of 8%; with a registered inflation rate of 5%, your real interest rate will be only 3%. Real interest rate = Nominal Interest rate – Inflation rate = 8% - 5% = 3% In addition, if inflation is also able to drive an increase in the interest rates, your bond will be definitely worth less than before. Imagine your bond is paying a 8% nominal interest rates but now it is possible to buy the same bond at a 10% nominal interest rate. To this new conditions, your bond will be competitive on the market only at a lower price. The new value of your bond will be then determined by the market with a very simple pricing formula, which takes into account the new level of interest rates through a parameter known as modified duration. Modified duration tells you how bond price is linked to interest rate variation. Higher the interest rate, lower the bond price. With an assumped modified duration of 5 and an increase of the interest rate from 8% to 10%, you could register a 10% loss! % Δ Price = - Modified Duration X (Δ Interest rate) = - 5 X (10% - 8%) = -10% In conclusion, you could end up with a less worthy bond which pays a lower real interest rate. This is why investing in bonds is not the best way to protect yourself from the rising of prices. 𝑯𝒐𝒘 𝒅𝒐𝒆𝒔 𝒕𝒉𝒆 𝒊𝒏𝒇𝒍𝒂𝒕𝒊𝒐𝒏 𝒂𝒇𝒇𝒆𝒄𝒕 𝒕𝒉𝒆 𝒆𝒒𝒖𝒊𝒕𝒚 𝒂𝒔𝒔𝒆𝒕 𝒄𝒍𝒂𝒔𝒔? 📈 Very high interest rates should worry equity investors as well. The value of a business is strongly affected by interest rates for different reasons. Usually the higher the interest rates, the lower the value of a business. In fact when interest rates increase, discount rates applied to value companies are pushing up and can drive to stock market corrections. To make this clear I would use a simple formula. Equity value = Cash flow / Cost of capital Cost of capital = Free interest rate + Equity Risk Premium The value of a business producing for its investor a constant cash flow is simply that cash flow discounted for the cost of capital. Cost of capital is a function of free interest rate and equity risk premium and tell you the return the investor expects from its own investment. Higher the interest rate, higher the cost of capital, lower the value of business. Then when the interest rates rise, investors tends to expect higher returns to remunerate their risk and value stocks today less. There are times when interest rates are so good that investors prefer to invest their money in bonds leaving the stock market. This happens when the inflation rate drives an increase in interest rates. Anyway a normal level of inflation is well tolerated by companies that can easily absorb it rising prices for their products and services in parallel with costs. This process is not instantaneous and can require time; here is why, in the long term, investing in stocks remains the best way to protect yourself from the inflation risk. 𝑾𝒉𝒂𝒕 𝒂𝒃𝒐𝒖𝒕 𝒐𝒕𝒉𝒆𝒓 𝒂𝒔𝒔𝒆𝒕 𝒄𝒍𝒂𝒔𝒔𝒆𝒔? ⚠️ Commodities and real estate have often been touted as a portfolio diversifier that serves as a hedge against inflation. Similar claims have been made on cryptocurrencies without real evidences. $SPX500 $NSDQ100 $TLT (iShares 20+ Year Treasury Bond ETF ) $BOND (PIMCO Active Bond Exchange-Traded Fund) $BTC

Not investment advice. The author may have financial interests in the mentioned instruments.