Gold cements role during times of uncertainty

While most major asset classes have fallen over the past year amid the significant volatility in global markets, gold’s role as a safe haven in times of uncertainty appears to have persisted.

In a note released this week, ETF Securities head of distribution Kanish Chugh pointed out that the precious metal had outperformed top indexes over the past six and 12 months, including the ASX 200 and the MSCI World, as well as Australian and global bonds.

Mr Chugh said that gold appeared to have turned a corner in recent weeks after falling from a high of US$2,000 an ounce earlier this year following Russia’s invasion of Ukraine and was now trading roughly flat year-to-date.

“Geopolitical tensions remain high, with war in Ukraine destabilising eastern Europe and Nancy Pelosi’s visit to Taiwan causing alarm in China. While these events are reflected in the gold price at this stage, they serve as a reminder that gold typically finds support during times of crisis,” he said.

According to Mr Chugh, gold differs from other precious metals as its price is determined less by supply and demand, and more by other factors including interest rates and speculation.

“Signals also suggest that the dollar’s strength may be waning. US Fed funds rate futures have become less hawkishly priced in recent weeks, as fears of slowing US growth raise questions about the Federal Reserve’s ability to continue tightening,” he added.

“Fed rate hikes are one of the primary determinants of the value of the US dollar. Should the dollar retreat, we could see further support for gold.”

Recent analysis by Morningstar portfolio strategist, Amy Arnott, also suggested that gold has lived up to its reputation as a buffer asset during this year’s market declines.

“Over longer periods, gold has consistently excelled during bear markets and periods of unusually high market volatility,” said Ms Arnott.

“Gold has posted significantly better returns during previous market drawdowns. While its performance during the novel coronavirus crisis was a partial exception, gold has more often notched positive total returns during periods of deep losses in the equity market.”

However, Ms Arnott stated that gold had demonstrated “uneven” performance in environments outside of bear markets.

“Gold lagged stocks during most of the 1980s and 1990s, and generated negative returns, on average, during those periods,” she said.

“It excelled during the inflationary environment of the 1970s and the ‘lost decade’ for stock returns in the 2000s, but then fell well behind stocks starting in early 2010.”

As part of her analysis, Ms Arnott investigated whether gold would have improved portfolios over the longer term by tracking the performance of four hypothetical portfolios since 1976.

These included a balanced portfolio of 60 per cent stocks and 40 per cent bonds as well as three where part of the portfolio was allocated to gold rather than equities.

“Over the 46 and a half-year test period, allocating a portion of assets would have reduced returns slightly. Gold in isolation is a risky asset — as witnessed by its 61.8 per cent maximum drawdown over the test period — but its diversification value is what really helps it shine,” Ms Arnott said.

“Gold has consistently had a low correlation with stocks and other major asset classes; this low correlation helps reduce risk at the portfolio level.”

She noted that, while adding gold to the portfolio would have reduced the overall risk level slightly and limited drawdowns compared with the balanced portfolio, the improvement in risk-adjusted returns was fairly marginal.

“Gold has consistently proved its mettle as a safe-haven asset and portfolio diversifier. In a portfolio context, though, its ability to improve risk-adjusted returns is a bit underwhelming.” Overall, gold is best thought of as an insurance policy that’s best used in smaller doses,” Ms Arnott concluded.

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Jon Bragg

Jon Bragg is a journalist for Momentum Media’s Investor Daily, nestegg and ifa. He enjoys writing about a wide variety of financial topics and issues and exploring the many implications they have on all aspects of life.

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