Topic Breakdown - Deflation
Introduction
You have probably heard of the term ‘inflation’ in economics, but what about deflation? Deflation occurs when the prices of products and services fall across the whole economy, improving consumers' buying power. It is the inverse of inflation and can be regarded as harmful for a country since it might signify an economic downturn, resulting in a depression or recession. Basically, deflation happens when the rate of inflation falls below 0%. Now that we know the definition of deflation, let’s look at its causes and effects, and learn how you can still make money during deflation.
Contributing Factors
Deflation can occur as a result of either a rise in the supply of goods and services or a drop in the supply of money and credit. Monetary policies such as interest rates can also lead to deflation. Rising interest rates may cause people to conserve their money rather than spend it, and may discourage loans. When people spend less, there is less demand for products and services. Unexpected economic circumstances, like a global pandemic, may also reduce total demand. People who are concerned about the economy or unemployment may spend less in order to save more. So what happens due to deflation? As prices fall, company profits drop, and some companies may cut expenses by laying off employees. Therefore one result of deflation is unemployment. In periods of deflation, interest rates tend to rise, making debt more costly. As a result, both consumers and corporations typically reduce their expenditure due to deflation.
Thriving Through Deflation
So in periods of deflation, how can you still make money? In times of deflation, it may be preferable to search for investments that hold their value or at least do not fall as quickly. One example of an investment that tends to stay stable throughout deflationary periods are defensive stocks. Defensive stocks are stocks of corporations that supply goods or services that we cannot easily remove from our lives. Two of the most common examples are consumer products and utilities. Consider toilet paper, food, and power. People will always require these commodities and services, regardless of economic situations. You can also invest in dividend-paying stocks. Because of their payout, dividend-paying equities remain popular throughout a recession. While the stock price may fall, investors may rely on dividends to provide consistent passive income. However, it is vital to note that investors should prioritize high-quality dividend-paying firms above those with high dividend yields. An extremely high dividend yield may be a warning indication since it may suggest that the stock's price has just dropped.
Financial Trends
Hedge Funds Bearish
Hedge funds are rapidly becoming skeptical due to the big rally that broke out in the middle of a bear market. According to the head of U.S. equity and derivatives strategy at BNP Paris, Greg Boutle, the net short positions against the S&P 500 futures by hedge funds have amounted to a record of $107 billion this week. One solution that has been proposed to slow down the rate of hedge funds becoming skeptical is shorting the S&P 500 futures and betting against the broader stock market, however, this could also result as a part of a hedging strategy. Economic data is projecting the ease of prices pressured based on the belief that the Feds is getting inflation under control.
As a means to deal with the massive defensive positioning of the S&P 500, some hedge funds have been forced to cover their short bets as stocks continue to go higher, further fueling the rally in the short term. The largest amount of short coverings occurred in the consumer and technology sectors, as short sellers ended up covering $45.5 billion of their short positions since the S&P 500’s June low levels. These are essentially some indications that financial institutions are looking at recent upward market movements, part of the “bear rally market” and are expecting a pullback in share prices across the broad market.
Housing Market Approaches A Recession
The sales of previously owned homes fell by nearly 6% due to a seasonally adjusted annualized rate of 4.81 million units decrease. It has been the slowest sales pace of previously owned homes since November of 2015, discounting the brief splurge of sales at the start of the pandemic. According to the chief economist for the Realtors, Lawrence Yun, “In terms of economic impact, we are surely in a housing recession because builders are not building. However, are homeowners in a recession? Absolutely not. Homeowners are still very comfortable financially". Due to mortgage rates spiking higher in June and July, and the average rate on the 30-year fixed loan crossing over 6%. With demand for home buying starting to dip down due to lack of affordability, prices of new and previously owned homes remain at extremely high prices.
The median prices of homes sold in July were $403,000, which was an increase of 10.8% year over year. There is some good news as so far in August, price gains are starting to become moderate despite it being the smallest annual rise since July 2020. On the higher end of the housing market, sales activity continues to be significantly stronger but that is also coming to a quick because there is simply more supply available for the top-tier houses with premium prices. First-time buyers merely represented 29% of homebuyers in July, when they normally represent 40% of the sales, proving that they are struggling the most with the affordability of homes in the housing market.
Financial Guidance
“All our dreams can come true if we have the courage to pursue them.” ― Walt Disney
Everyone has dreams, but the only way they come true if you actively seek to pursue it. When thinking of people we consider to have achieved their dreams, it’s important to acknowledge the time they invested, the drive they showed, and the struggles they went through in order to get to that point.
Term of the Week
Hedge Fund
Hedge funds are a type of investment funds that target wealthier individuals or institutions. They differ from other types of investment funds by the fact that they tend to make riskier investments, but they also offer the potential to bring back higher returns compared to other investment funds.