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In An Inflationary Environment Does Gold Make Sense

August 11, 2021

In An Inflationary Environment Does Gold Make Sense

Right now, inflation seems to be on everyone’s (including investors) minds. And, given the actions of our denizens of the swamp in D.C. this is a reasonable concern. I get some really strange looks and even comments when I state categorically that over the decades, gold has not been that  good  a hedge against inflation – or, at least, not as good as other asset classes.

One of the examples I use is from my own experience. Back in the 70’s the woman’s jewelry of choice seemed to be a Kruggerrand necklace. After Nixon closed the gold window, both inflation (the end result of a “guns and butter” fiscal policy of his and the prior administration) came to the fore and gold’s price took off. Many of us advising clients at that time chose to purchase gold mining shares either directly or indirectly via mutual funds as a hedge. And I as well as they were proven right (although those of us who were investing globally did OK as well). When the Russians invaded Afghanistan in December of 1979, the price spiked to the $600’s and following one of the oldest Wall Street adages, I chose not to be a pig and exited the positions, figuring only one of three things could happen: 1. We’d have a nuclear exchange, in which case investment concerns were the least of our problems (didn’t happen); 2. cold war would intensify (it did – sorta); or 3. things would just sort of muddle along (which is what it did until Reagan assumed the office). My getting out was no act of financial genius, just some common sense and, frankly we had made a good deal of money on the investment so why hang around a volatile commodity like gold? See item 1 below for the return of gold since I liquidated.

So, if I sold out in $600’s and today the price of gold per oz is: $1,700 and change what kind of a rate of return is that – particularly in comparison to equity and other asset class prices over the same period? But that’s just my own anecdotal experience which has no statistical relevance. Let’s look at the actual record.

  1. Over the fifty years since 1971 (when the gold window was closed), gold has returned an annualized 8.2% whereas the S&P 500 has returned 11.2%. Furthermore, the only reason gold came even this close to matching stocks over the past 50 years was its huge return during the first decade following Nixon’s announcement. Take away that decade and gold’s return was a paltry 3.6% compared to 12.2% for the S&P and even 8.2% for Treasurys.
  2. The argument for gold’s inclusion in a portfolio is its lack of correlation to equities. But if that is a good argument, consider that mining company shares are already included in a diversified index portfolio. The lack of correlation is considered a method of moderating volatility. But the reality is gold’s correlation to equities has actually varied widely over the years. So, non-correlation?
  3. During the recent bear market of February and March 2020 gold mining shares dropped 39% versus a drop of 34% for the S&P 500. Back in 2008, when everyone was touting gold prices reaching the heavens and gold was over $2,000, it quickly fell to below $1,000. How successful a hedge was it then? Reminder: when I exited in 1980 it was in the $600’s! How successful was it over those years?
  4. Could gold be a successful inflation hedge in future years? Perhaps, but there’s little historical support for that thesis.

My personal advice on gold is this: own it via mining shares contained within a diversified, indexed portfolio and buy it (and other precious metals and stones) as jewelry for a loved one. In the latter case it will return great dividends on a personal relationship level and if the price really takes off, you can always sell the jewelry or melt it down to reap your return!