Gold has been used as a storehouse of value for thousands of years and while it isn’t used in day-to-day transactions anymore, it can still play an important role in your portfolio. Here are five reasons why investors ought to consider including at least some gold in their investment account.
diversification is the single best reason why gold deserves a spot in your portfolio. Historically, gold is weakly correlated to the performance of the stock market, which means its value may fall when stocks rise or rise when stocks fall. In simple terms, correlation is the relationship between two or more investment types. If two or more investment types have a correlation of 1.00, they’ll move in perfect unison up or down and if they have a correlation of -1.00, the two investments will move in opposite directions.
2. Inflation and dollar hedge
Inflation is a general increase in price that reduces the purchasing value of money. We haven’t had to worry too much about inflation lately, but global economic growth is picking up and as a result, rising demand for goods and services could begin to rise faster than the supply, causing inflation to increase.
If inflation increases, then it could be good news for gold investors. While more gold can be mined out of the ground, there’s ultimately a limited supply of it on earth. That’s unlike money supply, which can be increased simply by adding more printing presses.
The potential for rising gold prices to protect investors during periods of inflation is reinforced by the fact that the SPDR Gold ETF has a negative 0.528 correlation to the Power shares DB US Dollar Bullish Fund, an ETF that pools together investors’ money to invest in the U.S. Dollar.
How much can gold’s negative relationship to the U.S. Dollar come in handy during periods of inflation? Consider that when inflation was rising at a double-digit rate between August 1976 and January 1980, gold prices increased by over 700%.
Inflation isn’t the only reason why a currency’s value may decline, though. The global currency market is the biggest market in the world and currency exchange rates fluctuate widely based on each individual country economic data and political stability. Because of this, the value of the U.S. Dollar may decline if other foreign currencies are viewed as better investments. In such a scenario, gold’s negative correlation to the U.S. Dollar means its value could increase as the U.S. Dollar falls, providing investors with gains despite the Dollar’s drop.
3. Peak gold production could send prices higher
Improved mining and discovery techniques helped global gold production increase to 3,150 metric tons in 2017, up from 2,470 metric tons in 2005. However, there’s only so much gold in the ground and it’s commonly believed that we’re closer to peak gold production than we are far away from it.
This thinking was reinforced last year at the Manchester Gold Forum when World Gold Council Chairman Randall Oliphant said gold production is plateauing.
If he’s right, then an eventual return to declining year-over-year gold production and the resulting effect of tightening global gold supply, could translate into higher gold prices if gold consumption for things like electronics connectors and jewellery, plus demand from Central Banks, outstrips new supply.
The impact of peak gold on prices might not be limited to the commodity itself, either. As gold companies fail to replace their reserves with new discoveries, consolidation within the industry could drive valuations up for gold companies boasting the best reserves. For this reason, having some gold or gold stocks stashed away in your portfolio could be profit-friendly.
4. A dash of income
Gold stock prices are volatile and that makes investing in them risky. Nevertheless, some gold stocks return some of their quarterly profits to investors in the form of dividend payments which makes buying gold stocks attractive.
This is particularly true of gold royalty and streaming companies, such as Royal Gold and Franco-Nevada. These royalty companies provide gold mining companies with the funding they need to buy and develop their gold mines. In exchange for their financing, these royalty and streaming companies can receive royalties on future gold revenue or the physical gold itself. This business model has been a boon to income investors because as these deals pan out, it provides a steady stream of cash flow that can be used to boost dividend payments to investors or reinvest back into new deals. For example, Royal Gold’s dividend payment has grown by 257% and Franco-Nevada’s dividend payment has grown by 95% since 2010.