Gold Investor: risk management and capital preservation - Volume 4

Published 30th October 2013

Categories: Investment

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Aram Shishmanian

CEO World Gold Council

Welcome to the fourth edition of Gold Investor. We are pleased to share a selection of the latest investment research from the World Gold Council with you. 

 


The global economy has come a long way since the 2008-2009 financial crisis and its aftermath. The economic recovery today seems to be on a sounder footing than earlier this year. In the US, the housing sector has not only stabilised but is demonstrating consistent growth, unemployment has declined – albeit the participation rate remains low – and consumer spending continues trending upwards. 

In Europe, the fear of a catastrophic failure has subsided with the European Central Bank (ECB) prepared to ‘do whatever it takes,’ and recession gave way to a nascent recovery during the summer, buoying European equity markets. In China, an upward surprise in economic growth has eased concerns about the economy and focused attention on policy reform. 

But such a rosy picture, while welcome, does not tell the full story. The future does look brighter compared to where we were in 2012, but questions linger about how soon a full recovery will come or how steep the path to get there will be. 

The recent US showdown over the federal budget and the debt ceiling has led some economists to downgrade their growth projections for this year. If these forecasts come to pass, it is likely the Federal Reserve (Fed) will maintain its large-scale asset purchase program further out to 2014. It is also likely this will reignite the discussion in other countries about the risk posed by Fed tapering – and the merits of a world economic and financial system dominated by the US and the dollar. Europe’s path to economic recovery will be long, and along the way it will have to create institutions to strengthen the monetary union. This will involve overcoming political hurdles that have the potential to unsettle financial markets and hinder already fragile economic growth, especially that of indebted peripheral European countries. Emerging markets remain volatile and are still likely to be affected by asset- and currency-price variability as a result of fluctuating expectations of Fed tapering and of varying domestic policy responses across emerging regions. 

All this has created an environment in which financial markets move with less long-term conviction and are more sensitive to short term tactical views accentuated by derivatives and algorithmic trading. What can investors do in such an environment? Perhaps apply the single most important lesson learned during the Great Recession: risk management matters. Risk is not something to be feared but embraced as the price investors pay to earn meaningful returns. However, anticipating the unexpected and reducing downsides are key strategies for protecting hard-earned returns in this ‘new normal’ economic reality. 

In this edition of Gold Investor, we first explore the reasons investors should consider gold as an integral part of their long-term holdings, in Why invest in gold? We discuss the benefits of holding gold, such as inflation protection and currency hedging, in the context of global dynamics and its relationship to other assets. We analyse optimal gold holdings and explain why a 2% to 10% allocation to gold in well-diversified portfolios makes sense. In addition, as a continuation of our series on key drivers of gold, in Gold and currencies: the evolving relationship with the US dollar, we explore the reasons behind gold’s inverse relationship to the US dollar, its significance in price movements, and the potential effects of a migration to a multi-currency monetary system on gold. 
We hope you find this edition of Gold Investor informative and stimulating, and we welcome your views.