Gold: The Best Asset Class Under Any Market Conditions

So concludes David at (www.topforeignstocks.com) in an article* which Lorimer Wilson, editor ofwww.munKNEE.com, has reformatted into edited […] excerpts below for the sake of clarity and brevity to ensure a fast and easy read. (Please note that this paragraph must be included in any article reposting to avoid copyright infringement.) David’s post goes on to say:

Barry Ritholtz, chief executive officer of FusionIQ,  maintains that there are three ways of valuing gold, namely: 1. as a % of the money supply; 2. relative to the S&P 500 index; and 3. in infation adjusted current dollars. “All three of the metrics suggest [gold] has not yet reached its highest potential price,” Ritholtz says. “Slapping a $2,000 target is not unreasonable, and breaching its inflation-adjusted price of $2,358 is also possible.” He adds an important caution: “Gold fever has risen to the point of excess, [however,] and should not account for more than 5 percent of your portfolio.”

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In a report, William Martin of American Century Investments says that unlike stocks and bonds, whose returns are dependent on business conditions, gold actually tends to perform better during periods of economic and political uncertainty… [ The report] looked at the performance of gold relative to U.S. stocks, bonds, and cash under three different historical periods: 1) hyperinflation, 2) low inflation, and 3) financial system crisis. The report intentionally chose favorable comparisons for gold to illustrate its point that gold has the potential to outperform mainstream assets across diverse environments.

a) Gold performance during hyperinflation

The graphic below shows the performance of gold against other asset classes during the hyper-inflationary period of the 1970s. The data used started from December 1972, since before that time the price of gold was pegged to the dollar at $35 an ounce.

Click to enlarge

During inflationary periods such as the one shown above, as prices of goods and services rise, the value of paper currencies decline in purchasing  power since their values are not tied to a tangible asset. The value of the dollar has declined sharply since the 1970s relative to gold. Gold, on the other hand, offers some certainty during inflationary periods when paper currencies decline in value. Conclusion: gold can be used effectively as an inflation-hedging vehicle.

b) Gold performance during low-inflation

During periods of low-inflation gold can also outperform other assets. For example, during the moderate economic growth and low inflation period in the 2000s before the financial crisis, gold performed very well compared to other asset types as shown in the graphic below.:

One of the main factors that contributed to the positive performance of gold in the decade mentioned, was the rise of emerging markets where citizens invested their savings in gold due to cultural and other factors. Many political and economic crises during this time also forced investors to seek the safe-haven of gold.

c) Gold performance during crisis

Gold has performed well during periods of stress in the political and financial systems. As shown by the chart below, gold outperformed other asset classes during the credit crisis in 2008 and the European sovereign debt crisis earlier this year. Investors are attracted to gold due to fear of sovereign credit defaults and deflation.

Conclusion

Allocating a small portion of assets to gold in a well diversified portfolio is a prudent strategy.

*http://topforeignstocks.com/2010/11/08/is-gold-the-best-asset-class-for-all-economic-conditions/?utm_source=feedburner&utm_medium=feed&utm_campaign=Feed%3A+tfs+%28TopForeignStocks.com%29  (Source: Gold and the Decade to Come, William Martin, American Century Investments)

Editor’s Note:

• The above article consists of reformatted edited excerpts from the original for the sake of brevity, clarity and to ensure a fast and easy read. The author’s views and conclusions are unaltered.
• Permission to reprint in whole or in part is gladly granted, provided full credit is given as per paragraph 2 above.
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