Lately, it feels impossible to go a day without seeing an ad for gold. Whether it’s a celebrity urging you to protect your wealth or a commercial warning of economic collapse, the message is loud and clear: “Buy gold now!” But is it sound advice—or just marketing noise? Let’s take a closer look at what’s behind the latest gold rush.
Among the major asset classes, gold has been the best performing investment in the past twelve months, trouncing equity markets, bonds, real estate, and most other commodities. There are many potential reasons for gold’s recent run, including economic policy uncertainty, elevated inflation, concerns about the national debt, dollar weakness, and perhaps a change in the mix of reserve assets held by foreign central banks. In any case, gold is up more than 45% in the last year, marking one of its best annual performances in decades:
Five years ago, in a post on our Elevate website, I wrote:
“Gold (along with the rest of the precious metals complex) is a unique asset class. It produces no cash flow, making it difficult to calculate an intrinsic value. It is prized for both jewelry and industrial uses, and shares some properties with other commodities, but is not “consumed” like oil or agricultural products. It is also considered by many to be a form of money itself, although rarely used for that function since paper or electronic money is far more convenient. Many investors buy gold as an inflation hedge, although it serves that function rather poorly as its correlation with the US dollar swings wildly between positive and negative. There have been many periods in which inflation is high but gold declines in value.
However, since President Nixon closed the gold window in 1971, gold as an investment has performed well, returning about 7.6% per year and handily exceeding the 4% rate of inflation since then. The issue with including gold in your portfolio is not the return per se, but rather, the volatility. While gold has performed similarly to intermediate-term Treasury bonds (+7.0% annualized) since 1971, that performance came with a volatility (risk) measure more than three times greater. For this reason, no competent adviser would recommend a “100% gold” portfolio, because the result would be very inefficient (lots of risk relative to the expected return).
But gold does have one very attractive property – a near zero correlation with the US stock market. This makes gold useful as a potential diversifier, especially for a traditional portfolio of stocks and bonds.”
All of that still remains true, except that since gold has returned an annualized +14.1% since then, its post-1971 annualized return has risen to +8.2%. At modest gold allocations of 5-15%, the combination of attractive returns and low correlation to global stocks and bonds would have improved the overall risk and return characteristics of many traditional portfolios. This desirable effect (better risk/reward ratios) can be achieved with or without gold, by combining bonds with stocks, foreign stocks with US stocks, ‘value’ stocks with ‘growth’ stocks, small stocks with large stocks, and adding real estate. The key takeaway is that while adding a modest allocation to gold might improve your portfolio efficiency, the most ‘optimal’ portfolios contain all of these asset classes working together to achieve the highest return possible for an acceptable level of risk.
Sources: https://ycharts.com/
