In the September edition of Professional Pensions, John Mulligan references the early signs emerging that institutional investors’ are embracing gold as a strategic asset and introduces why gold’s ESG credentials may propel this interest further.

On 1 October 2019, disclosure rules were introduced representing what the Pensions and Lifetime Savings Association described as a first step in an “ESG journey” for trustees. And this year trustees will be required to report on this journey, while also detailing their understanding of the potential impacts of the climate crisis on their investments.

In other words, ESG and climate factors are now vital and unavoidable elements in determining how investments are chosen, managed, and measured.

The status of these investments has never been more precarious. The value of the average UK pension fund plummeted as the economic consequences of Covid-19 started to bite, with Q1 2020 quarterly performance the worst on record. There has since been a rebound, but there are questions as to how robust it might be.

The Organisation for Economic Co-operation and Development recently predicted the UK economy will shrink more than any other developed nation’s. And the UK Office for Budget Responsibility has asked whether “the resulting economic and fiscal damage [could] turn out to be permanent”.

And yet, in the midst of this disruption, there is a strong argument that, aligned with recent regulatory changes, we might redirect the road to recovery to ‘build back better’ by further integrating ESG factors into all our investment decisions. Particular urgency should be given to selecting assets that can make a positive contribution to building resilience while driving the transition to a net-zero carbon future.

So where does gold come into this?  

First, we must acknowledge that gold as an investment asset has been largely overlooked by UK pensions professionals and advisers.

But there is a well-documented argument that the asset allocation and risk hedging strategies of UK pensions have missed a trick by neglecting gold. Analysis has repeatedly demonstrated gold can contribute to the optimal risk-return performance of a portfolio and provides much-needed balance when other assets converge and fall under severe market pressures.

The case for gold as a diversifier and ‘market insurance’ is stronger now than ever after the global financial crisis of 2008 and the European sovereign debt crisis that followed it.

The earlier crises were significant in that they structurally changed gold demand by widening its investor base; prompting a reawakening of demand for gold from European private investors and the reversal of central bank positions on gold, as they flipped from being sellers to major buyers.

UK pension funds and institutional buyers have proved a little more reluctant to embrace gold as a strategic asset, but there are signs that, in the wake of the pandemic, this may be changing.

Surging investor demand for gold is currently pushing the price to record highs, up over $2,000/0z, a 35% rise year-to-date (at the time of writing). Even if it gives up some of those gains, gold will likely outperform most mainstream asset classes over the year. The sheer scale of inflows into gold exchange-traded funds, with the value of global assets under management reaching a record $240bn, suggests a far wider set of investors are now turning to gold.

And it is important to note that a range of simmering economic risks – ultra-low interest rates, limited yield and return opportunities, stretched asset valuations, and heavy debt burdens – were already driving some institutional investors to gold well before the pandemic. Most of these risks are likely to be greatly exacerbated by the colossal stimulus packages being implemented by governments and central banks trying to prop up economies as they reel from the corrosive consequences of the lockdowns.

And what of gold's ESG credentials?

Beyond recent moves to ensure gold production conforms to high ESG standards and demonstrates responsible and sustainable business practices, as evidenced by the launch of (and support for) the Responsible Gold Mining Principles, there is a strong case for viewing gold as a potential climate-risk mitigation asset.

In addition to the significant steps already underway to decarbonise gold mining (the source of most sectoral emissions), there is evidence that gold’s response as an asset in the face of climate-related physical and transition risks, across a number of temperature scenarios, may be more robust than that of many other asset classes.

Gold’s resilience and outperformance this year may not be direct proof of that robustness, but it certainly warrants further examination by UK pension professionals and asset allocators as they seek to ‘build back better’ on the road to recovery