Hi all: I am wondering whether hyperinflation and devaluation of the currency will cause abrupt rise in all asset prices and thus cause massive losses on short calls. This can happen if China/OPEC countries, for instance, suddenly stop buying our bonds. As I know, inflation usually causes decline in equity markets as it induces the Fed to set higher interest rates that choke off easy credits. But what if hyperinflation occurs one month after you placed short positions? Any comments? http://www.cato.org/zimbabwe -- Should I laugh at or fear these inflation numbers?
No hyperinflation in the near term. Wages arent rising, prices arent rising for the short term. Rates already at near zero, tightening is coming before you expect it to. IMO hyperinflation just wont happen and if it does it def wont be in the near term.
If we have hyperinflation, your calls probably will be the least of your problems. If you're concerned, and it's reasonable that you should be, consider putting 10% of your portfolio in physical Gold. There are some risks there of course, such as outlawing private ownership and taxes on private sales.
But surely you would agree that the losses on your calls will be nominal, rather than real? In fact, on balance, there's no reason to assume a priori that you'll suffer real losses at all (obviously, will depend on the specific positions). Furthermore, it's great to be a nominal borrower in hyperinflationary times. All else being equal, selling options means borrowing money, so these positions might actually benefit from inflation.
Thank you for all your replies. I have used some online options pricing calculators to calculate the call prices in case of hyperinflation while holding all other variables constant. The call prices blow through the roof. Therefore, I think that in case of hyperinflation, short calls are deadly. Hmm, I need to dig up my quant books again. Comments?
You are talking about hyperinflation as if it would set in overnight. It's not like we go to sleep with a 1% inflation and then wake up the next morning with a 100% or whatever inflation. Actually this would be a perfect scenario if you are short calls, because although you would close out the calls at a huge loss, but if you wait a day then the money you owe will lose value.
You are talking about overnight hyperinflation, right? Like what happened in zimababwe when their currency went from something like 3 to dollar to 250,000 to the dollar? (dont remember exactly what it was) Well if that happens, it probably doesnt matter if you were long or short...you would be in the same boat. Obviously if you were short, you would be wiped out. But if you were long, you would never get your money. The brokerage that you traded through would be wiped out. Why? Because lets say you are short a stock that is trading at $50 per share and lets say that stock is 100% of your portfolio, meaning if the stock goes to $100, you are wiped out. Now if overnight hyperflation occured and the stock opened up at $2,000 per share, the brokerage would have to eat $1,900 per share of that loss. Multiply that by 10s of thousands of customers who were shorting and you got some serious problems. I dont know that you would find any brokerage that didnt get wiped out in that type of scenario and if you were long its true that the brokerage is really just holding your stock for you and you can receive the actual certificate if you want, but who is going to buy it? Even if someone has the money, there are going to be so few buyers that in relation to what it was worth the previous day that even though your 50$ stock is now $2,000, the stock may only have 10 dollars of buying power meaning you lost 40$ per share in real money. Hyperinflation is not going to make anyone rich overnight in real terms. Those that hold gold & silver though will be the ones that dont lose anything.
If that happens, we'll all have to figure out a way to get past the border guards and sneak into Mexico
As the the other posters have said a month to go from no inflation to hyper-inflation is stretching it. And let's say that it did, then the planet is up the creek without a paddle and it does not matter what you do on the market since it will not matter. The problem with trying to prepare for these type scenarios is that they are way out there and you can't prepare for them. My sister who lives in Ecuador said these crazy scenarios are just that crazy. If we were to have riots the first thing that would happen is that the police would come out in full force. If that does not work then the military. And here is the thing. When the military kicks in then it does not matter what you do because whatever you do do will be taken from you. Remember when it was illegal to own gold? Imagine being the fool to taking all of your assets converting it into gold, only to have it taken away from you? Gee, you could have planned for that, NOT! Want to know what I would do in such a scenario? Get lots and lots credit cards, max them out on food/basic essentials, and run to the hills. If there is this true hyper-inflation then credit companies will go under. And getting you to pay up will be the least of their problems. If you are the first to stop payment you will be the first to be forgotten...
Thank you all for your replies! With the Fed creating trillions of dollars out of thin air, and with so many warnings in the media and YouTube, I am genuinely concerned about hyperinflation because of the following additional factors: (1) I am paid by the government, and my paycheck is deposited electronically into my bank account. With the government running a huge deficit, if it takes more dollars to buy basic necessities, the government will not give me more money to cover these higher prices. Unlike people who open their own bakery and can charge customers higher prices in cash, I depend on the government for payment and credits and cannot charge a penny more. Even if the government increases payment, my taxes will go up because I have no cash to hide. (2) If hyperinflation does occur, how can I use it to "inflate away" my house mortgages? If my paycheck does not increase and I cannot get cash, hyperinflation can only hurt. Get out of debt as some people say, or get long term fixed rate debt? Time to go back to nature and to farming perhaps?