What is inflation:

1. Well, a moderate amount of inflation protects the

country from deep recession/depressions
2. It serves as an indirect form of taxation
3. It occurs when the government increases the supply
of money

What is the main cause of inflation:

The FED increases the money supply

FED - Reserve ratio:

For example - 20%
A man named carl goes to the bank and wants to put in
$1,000 that he saved, since the reserve ratio is 20%, the
bank has to keep $200 of the $1,000 on hand, the rest the
can lend to others.
Let’s say the bank lends $800 to a women named
christian, she then saves that money in the bank. The
bank has to keep 160$ of that money on hand, they can
lend out the rest($640).
At this process, $1,000 in the system actually turns into
$5,000.
We get this by 1/.2=5. 5x1,000=5,000

What happens if that ratio changes: into 10% for ex.

The $1,000 would turn into $10,000.
*this is one way in which the FED can adjust the amount
of money in the financial system.

What you need to know as an investor is how

inflation(or the devaluing of money) affects your
investments.
1. Bonds
a. For example: Let’s say Carl lends Christian
$1,000 for a bond and the coupon is 5% in 2012.
In 2013, the next year Christian has to return
Carl’s bond and pay him back the $50 coupon
that she received last year. Dan now has $1050.
Due to 5% inflation, $1,000 in 2012 is equal to
$1,050 in 2013. Therefore Carl has made no
money. As a result, in order to get the actual
bond yield, Bond yield - Inflation rate.
2. Stocks
a. If Carl buys $1,000 worth of stock from Apple,
and their net income is 100 in 2012, and 5%
inflation occurs, in 2013 perhaps, the share
would be worth $1,050 since the net income
would be $150
b. The value of Carl’s business, Apple in this case,
automatically maintained its value with inflation.
 But, remember the net income of $105 was also
paid to him either as a dividend or equity back into the
company’s account.
C. As a result, Stocks with no debt are generally
unaffected. If inflation moves the price point of a product
outside the market’s desire, inflation will impact a stocks
performance.