Advisers: Gold as an Investment in Portfolio Construction

There are many reasons that advisers build allocations to gold into investors’ portfolios. World Gold Council analysis shows that a modest allocation to gold, between 2 per cent and 10 per cent, can deliver a material downward impact on volatility and can increase risk-adjusted returns. In addition, gold has some unique characteristics as a portfolio diversifier:

Gold is a hedge against inflation

Inflation rates in major developed and developing economies are expected to rise, in part as a consequence of the financial crisis and subsequent mitigating actions such as quantitative easing.  Historically, gold has been a hedge against inflation. It has retained its value through geopolitical shifts and market turbulence, outperforming most major currencies and many real assets.

It is an effective balance against currency risk

Over the last decade, economic slowdowns and competitive pressures have led several major economies to devalue their currencies or print money as stimulus. A debased currency can be a serious threat to an investor’s portfolio. Because the forces that determine the price of gold - limited supply and diverse, growing demand - are independent of, and in many cases opposed to, the forces that determine the price of other investments, gold can be a true portfolio diversifier. Typically, gold is not correlated to other major asset classes, and is  negatively-correlated to the US dollar. It can be used effectively to manage currency risk in an investment strategy.

Why invest in gold?

Both highly liquid and highly tangible

Unlike many other assets, gold is a physical asset that an investor can own outright, and that can be traded 24/7 around the world at low price spreads.  It is entirely free of any credit risk, and (depending on how it is bought) of counterparty risk.

It delivers a return when other assets falter

Historically, gold has demonstrated a valuable ability to go up when other assets are going down. It can help mitigate investment losses when unpredictable market disruptions occur. For example, a portfolio with a five per cent gold allocation experienced an increase of one per cent during ‘Black Monday’ (19th October 1987, when stock markets around the world crashed), versus the same portfolio with no exposure to gold. This is in part due to the fact that gold moves with a degree of independence from other asset classes, but also partly due to a ‘flight to quality’ in times of economic crisis.

Products are suited to all types of investor

There are now a diverse range of tools that investors of all levels of experience can use to invest in gold, from exchange-traded funds (ETFs), physical bars and coins and gold accumulation accounts. There are also products that, although not physically-backed by gold, offer an exposure to the gold price. Advisers can offer their clients a variety of options tailored to their individual portfolio needs. 

What drives gold?