A:

Investors can hedge exposure to the aerospace sector by investing in sectors that move inversely with the broader market. The aerospace sector is a highly cyclical sector; when the broader market moves upward, aerospace moves upward to an even greater degree. When the market takes a dive, losses in the aerospace sector are greater than average. An investor can protect himself from this scenario by devoting a portion of his portfolio to counter-cyclical sectors that gain while the broader market is contracting.

There are three types of sectors in terms of how they relate to the broader market. Cyclical sectors move in the same direction as the broader market. The more cyclical the sector, the more it moves up and down with the market. Non-cyclical sectors are marked by stability, even when the broader market makes big moves in either direction. These sectors tend to expand very slowly over time and are a good fit for conservative investors who fear their portfolios being wiped out by large market declines. The third sector class is the counter-cyclical sector, which moves inversely with the broader market.

A sector's beta coefficient indicates whether it is cyclical, non-cyclical or counter-cyclical. The broader market is represented by a beta coefficient of 1. A beta greater than 1 indicates a highly cyclical sector, while a beta between 0 and 1 indicates a sector less cyclical than the broader market. A negative beta signifies that a sector is counter-cyclical and moves in the opposite direction of the broader market.

The aerospace sector, comprised of airplane parts manufacturers, airline companies and defense firms, has a beta of 1.16. It is 16% more volatile than the broader market, making it a profitable sector when the market is rising but a risky one when the market drops. Historically, markets have risen more than they have fallen, so many investors gravitate toward cyclical sectors, such as aerospace, that beat the market during good times. However, investors who understand that high risk goes hand in hand with high volatility hedge exposure to the aerospace sector by investing in counter-cyclical sectors.

Metals, particularly gold and silver, are great for hedging against aerospace and other highly cyclical sectors. Because they exist in finite quantities and have intrinsic values, many investors rotate into them and out of paper investments when stock markets take a dip. Metals are counter-cyclical because they perform well when the broader market is doing poorly. An investor who is heavy into cyclical sectors, such as aerospace, can mitigate heavy losses during bear markets by devoting a portion of his portfolio to metals and other counter-cyclical sectors. The gains made by counter-cyclical sectors during market declines help offset the big losses endured by aerospace and other highly cyclical sectors.

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How can an investor hedge exposure to the aerospace sector?