After reducing gold holdings in December and using the money to increase our equity exposure, this month we decided to remove gold from all our customers’ portfolios. These are the reasons why.
Firstly, we are increasingly confident that the global economy is gathering momentum – witness a jump in employment and retail sales in February. With global growth recovering, investors are unwinding investments in “fear” assets, such as gold, in favour of “hope” assets, such as equities.
Secondly, gold no longer trades as a safe-haven asset; it appeared to lose this status in November 2011, unlike inflation-linked government bonds which continued to rally. Since then, gold has moved in a similar fashion to equities – ie it is “positively correlated”. When global stock markets fell abruptly in April/May 2012 and again in October/November, gold prices also fell. As such, gold no longer trades as a useful insurance policy against a major economic or market shock.
Thirdly, we believe that many investors who would normally hold stocks on a long-term basis have invested in gold instead. Holdings of gold in exchange-traded funds (ETF) have fallen recently, but at around 79.9mn oz[i] they still represent the fourth largest holders of gold after the US, Germany and the IMF. At the time of the financial crisis ETF gold holdings were one-quarter of today’s level. Unlike stocks, gold does not provide any income (the rate earned from lending out gold is offset by the costs of storage), so higher prices require additional buyers to deliver a return. In contrast, long-term equity returns come from dividend income (the profits of growth). With the equity rally becoming more entrenched (US investors have made net purchases of stocks every week so far this year) we believe that gold holdings are likely to switch further in favour of equities.
While we have concerns that the extreme amount of money injected into economies by Central Banks will eventually cause inflation, we have doubts that gold will be a good long-term “hedge” against this. In his book The Golden Constant, Roy W. Jastram studied the behaviour of gold from 1560 onwards. In contrast to the prevailing view today, he found that gold failed to keep pace with other commodity prices during periods of major inflation. Rather, gold was far more useful during period of falling prices (“deflation”) as a useful medium of exchange.
If our view of the health of the global financial system changes significantly, we will revisit our opinion on gold. For now, however, we believe that equities offer a more alluring investment than the yellow metal.
Chief Investment Officer, Nutmeg
[i] Source: Bloomberg
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