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Washington’s response to the worst recession since the Great Depression continues to be one of gigantic fiscal stimulus, rapid increase in money supply, and near-zero interest rates.

Now comes the harder part of timing the withdrawal of these measures.

If the measures are removed too soon, the nascent recovery could be aborted and the economy can slide back into recession. If the measures are kept too long, they could stoke inflation and increase the chances of asset bubbles.

Investors are increasingly fretting that the Federal Reserve is likely to err. Even though current inflation data are not alarming, gold has been on a tear soaring nearly 38% since the start of 2009. Washington's measures have taken a toll on the U. S. dollar as well. The U. S. dollar index is down nearly 9% since the turn of the year.

So, what are the best ways to hedge against the possibility of the Fed erring?

Gold

One obvious way is to invest in gold by purchasing shares of SPDR Gold (NYSEARCA:GLD) or iShares COMEX Gold Trust (NYSEARCA:IAU). Although I have proved correct with my call for gold breaking through the $1,000 an ounce mark in Commodity Trading Strategies: Profiting from Gold and Natural Gas, I believe there are better ways to hedge against potential Federal Reserve’s follies.Gold's upside potential can be limited if the U. S. economy cooperates and renders the Fed's job easier.

Better ways to hedge include investing in international bonds and selected international stocks. Unlike gold, these investments offer the possibility of paying off well even if the Fed gets its timing right in withdrawing measures that are being employed to fight the financial crisis.

International Bond Funds and ETFs

International bonds offer foreign currency exposure, geographic diversification, current income, and potential for capital gains. Generally, individual investors are not equipped to analyze individual international bonds. International bond funds like Loomis Sayles Global Bond (LSGLX) and American Century International Bond (BEGBX) and ETFs like SPDR Barclays International Treasury Bond (NYSEARCA:BWX) and SPDR DB International Government Inflation-Protected Bond (NYSEARCA:WIP) are good options here.

Also, international bond funds and ETFs are typically less volatile than gold and the current income they generate can limit the damage if the Fed gets the timing right and the U. S. dollar rallies against foreign currencies.

International Stocks Funds and ETFs

One can profit from a decline in the U. S. dollar by investing a portion of the portfolio in well-managed, natural resource economies like Australia and Canada. Natural resources like oil and base metals are priced in U. S. dollars and often rise in price when the dollar declines. Demand for raw materials required by rapidly growing China and India could benefit natural resource producers.

Some investments that focus on Australia and Canada include iShares Australia ETF (NYSEARCA:EWA), iShares Canada ETF (NYSEARCA:EWC), and Fidelity Canada Fund (FICDX). Such investments provide exposure to currencies of countries that are major exporters of natural resources. They also offer geographic diversification and the possibility of substantial capital gains from their indirect exposure to emerging markets.

Disclosure: I own shares in LSGLX.

Source: Look Beyond Gold to Hedge Against the Dollar