Gold is a symbol of wealth and status that’s lasted for centuries, associated with all things luxurious from jewelry to sports cars to even high-end dining. It’s one of the most beloved and influential commodities that exist in our market today. Gold is unique in that it’s both a commodity and a currency. So some investors will hold it purely as a financial asset and others may hold it in jewelry form so it can be enjoyed.
But also it’s a way of storing wealth as well.
It’s a really fascinating asset. It’s been around for a long time, which just shows the power of what it’s been and how it’s played into the market. With an average daily trading volume of $183 billion, gold is one of the largest financial assets in the world. Its value has seen explosive growth in recent years. At the start of 2000, gold was priced at just $460, when adjusted for inflation.
By August 2021. That number had ballooned to roughly $1,815 per ounce. So you can see that the dollar value of holding gold has risen over the past decade. But not all investors are in love with gold. Warren Buffett has spoken out numerous times on his doubts, calling it an asset with no utility.
You know, one of the key characteristics of gold is it has no income attached to it. It pays no income, it doesn’t pay a dividend as stocks do and it doesn’t have a coupon like bonds do, but I think that’s going to become more of an issue going forward. So how valuable is gold as an investment? Gold is an enticing asset for investors. It’s been around long enough to feel reliable, durable enough to be stored long-term, and scarce enough to be considered precious.
Compared to other precious metals. It has a wider variety of real-world applications that provide a constant demand for metal. It’s extremely malleable and it’s easy to work. If we look at the breakdown of demand, most of gold’s demand is consumed by the jewelry sector. And then we tend to have a much more volatile piece maybe up to a third or 40% that’s consumed by the investment sector.
But when we look at the technology component that’s much smaller, it’s normally around 10% and a little bit smaller.
Central banks and financial institutions also play an important role in the demand for gold. In 2021, central banks eld more than 35,000 metrics of gold, about a fifth of ll the gold that’s ever been linked. The International monetary Fund holds about 2,814 metric tons of gold valued at around $158.5 billion.
It’s partly historical. I mean until the 1970s, large portions of the world including the US were on the gold standard, where they basically fixed the value of their currencies relative to gold.
And that basically meant that you know, a very large portion of central bank reserves had to be held in gold. So we’ve seen over the past couple of years, central bank buying has picked up and in fact, in 2018, we saw buying in excess of 650 tones. So the appetite to buy gold continues to persist.
Yes, we’ve had periods where we saw central banks reducing their gold holdings. But broadly, we’ve now seen central bank holdings reach their highest levels since 1999. Many investors use gold as an asset to diversify risk due to the fact that the metal is known to hold its value over time. We can see that if we look at the inflation-adjusted value of gold, looking at the real price of gold today, we can see that it’s pretty close to the levels that it hit back in 2011, but also the highest that it hit back in 1980.
So when we adjust the price, whether we’re looking at the GDP deflator, or whether we’re using U.
S. CPI, we can s e that gold has pretty much he d its value through decades Throughout history, gold has been most popular for its ability to hedge against any sort of market volatility. Take the great inflation of the 1970s, for example.
Between 1970 and 1979, the US suffered from one of the worst inflation rates in recent history. Within this period from 1973 to ’79, gold showed an impressive return of 35%, an enormous gain compared to any other commodity, The dollar and gold had an inverse relationship.
So as the value of the dollar, you know, US currency is debased, pulls back, often times gold moves in the other direction so it moves positively. You know, in situations like that, because it’s not as susceptible to inflation, it doesn’t lose its value like other assets do and that’s generally from a macro perspective why investors invest in gold. The same goes for deflation as well. Gold tends to be the most sought out commodity during times of economic or financial crisis. Between 2008 and 2012, following the Great Recession, the value of gold increased dramatically from about $1,150 per ounce to around $1,970 per ounce, adjusted for inflation.
Gold prices also reached new heights during the 2020 recession caused by the pandemic, with prices reaching an all time high of $2,021 per ounce overnight, settling above $2,000 for the first time in August 2021. If you look back at the last five big market corrections, so, you know, tech bubble, global financial crisis, you know, all the way through to the COVID crash of last year, you know, your average s&p 500 was down about 28% on average, gold was up about 11% on average. It’s because gold has proven its value in being a liquid asset, an asset that can be used to meet margin calls elsewhere and then still be able to retain its value. But whether gold is great for hedging is widely debated among experts. It’s widely discussed and argued whether gold is the greatest inflationary hedge.
And I would argue it’s probably not I think equities are, but I do think it plays a role. More recent analysis has shown that gold’s correlation to inflation has been relatively low.
In general, it’s yielded mixed returns for investors during high inflationary periods, suggesting that using gold to hedge might be more of a gamble than a safe bet. Gold can be good for hedging, it depends on the type of risks that you’re trying to hedge. So if it’s systemic risk, then gold can be an effective hedge.
If it’s something that’s much more unique to say, one particular country, or it’s a risk that isn’t system-wide, then it’s not a particularly effective hedge.
So we have had periods over the past five years, where gold safe haven role has been questioned and whether it still has a role in a portfolio. While gold might have won big between 1973 and 1979, gold investors lost 10% on average from 1980 to 1984, when the annual inflation rate was at 6.5%, and another 7.6%, from 1988 to 1991 when inflation sat around 4.
6%. Gold is not necessarily a perfect hedge against inflation, but it can be a strategic hedge against inflation. So if gold is held for a period of time before inflation picks up so various studies have shown us that if gold is held for 12 to 18 months before inflation takes higher, then it’s held for an additional 12 to 18 months while inflation moves higher, it can be a good inflation hedge. But if it’s just bought for a short period, let’s say a month, it may not prove to be an effective inflation hedge.
As a long-term commodity, gold also comes short in terms of returns compared to stocks and bonds.
Since 2011, the S&P 500 showed an annualized return of 14.55%. The annualized return for a 10-year Treasury note set at just 2.57% for the same period. In comparison, Gold’s 100year annualized return was below zero at -0.
05%. My concern with gold and commodities like this is more about the long-term yield. You know, so you have these macro events, these exogenous events like we just dealt with last year with COVID and geopolitical issues.
I think generally as we move into a different cycle, gold is not as great a performer as we move into a normalized environment. Warren Buffett is perhaps the most well-renowned figure for his dislike of gold.
He has considered gold to be an unproductive asset that pays no dividends or interests. In August 2020, Buffett made headlines after purchasing $562 million worth of shares in a gold mining company. One year later, Berkshire Hathaway’s 13F filing later revealed that he had exited the gold position altogether by the end of 2020, reaffirming his investment philosophy on gold.
It’s prudent portfolio management to have maybe a small allocation. But this is not an asset that you want to be heavily entrenched into if you’re looking for long-term yield.
So I would agree with Warren 100% from an investor perspective, Other commodities like cryptocurrency and even silver have also gained immense popularity in recent years, challenging gold status in today’s economy. However, whether it’ll actually succeed in toppling gold is a different story. If you’re perhaps looking for exposure to a commodity, that gives you some of the macro exposure, but also a greater commodity exposure when it comes to industrial usages, investors may prefer silver. But if you’re looking for a commodity, or investment that is more exposed to the macro environment, then investors tend to turn to gold instead. I think now there’s a lot of conversation about, you know, digital asset being deemed as stored value whereas gold has always been deemed as store value.
I think that will change and evolve over time.
So to b honest with you, I do not see i as competition in the long run I think both asset classes ca play in this market and that’ what makes them market. So it’ very kind of exciting to see ho they both develop alongside each other If history has proven anything, the influence that gold has over the world isn’t going away anytime soon I think you need to be just aw re that these bull markets do ‘t last forever. And the longer they go on, the more you just n ed to, I think be looking at the e again, these sort of rainy ay assets, you know, like gold, think you always want to be holding them.
The question is just s rt of how much. Certainly compared to the prices that we’ve seen over the past five to 10 years, we think gold prices will remain related. And then we might the greater, we might see another move higher in gold prices, but we thin in the near term there’s more upside risk, and then towards the end of next year, we are likely to see gold prices starting to trend lower.