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What are safe-haven assets?
A safe-haven asset is a financial instrument that is expected to retain, or even gain value during periods of economic downturn. These assets are uncorrelated or negatively correlated with the economy as a whole, which means that they could appreciate in the event of a market crash.
There are certain characteristics that assets often have that contribute to their reputation as a safe-haven, which include:
- Liquidity: the asset needs to be easily convertible to cash, at any time
- Functionality: the asset needs to have a use that will continually provide long-term demand
- Limited supply: the growth of supply should never outweigh the demand
- Certainty of demand: the asset is unlikely to be replaced or become outdated
- Permanence: the asset should not decay or rot over time
Not every safe-haven will have all of these characteristics, so investors have to make a judgement about the most suitable safe haven for the economic climate. It is important to remember that what makes a good safe-haven for one market downturn may not show the same results in another, so investors have to be clear about what they are looking to gain from using safe-haven investments.
How to trade safe-haven assets
Market downturns are an inevitable part of market cycles, which means that it is in an investor’s best interest to prepare themselves for them as much as possible.
In times of financial crisis, assets that are viewed as safe-havens tend to outperform the vast majority of markets. Although safe havens are primarily used by investors to protect the value of their portfolio, it is important for traders to be able to identify safe-haven assets, and use this understanding to anticipate price movements and implement their own strategies.
For example, the move out of ‘riskier’ assets could cause a sudden drop in the market price as investors flock to safe-havens, which means that you might consider getting out of any long positions or going short. But if you’re confident that you can identify the safe-havens of the moment, then there is the potential to profit from rising prices.
There is no definitive way to trade the patterns of safe-haven assets, as it all depends on your motivation. But whether you are looking to take advantage of price movements or adjust their own positions to protect themselves from falling prices, it is crucial to understand the prevailing market sentiment surrounding safe-havens.
Examples of safe-haven assets
Popular safe-havens can change over time, so it is important to keep up with investment trends. However, there are a few safe-havens that have remained favourites over the years, including:
- Government bonds
- US dollar
- Japanese yen
- Swiss Franc
- Defensive stocks
When people think of a safe-haven, they will most likely think of gold. As a physical commodity, the price of gold is not often influenced by the decisions of central banks on interest rates, and unlike paper currencies, its supply cannot be manipulated by actions such as printing.
Perhaps the strongest example of gold as a safe-haven was following the 2008 global financial crisis. The influx of investment caused the price of gold to rise by nearly 24% during 2009 alone, for example, and it continued this upward trajectory into 2011.