gold investing

Gold: The Ultimate Inflation Hedge?

Apr. 11, 2012 04:00AM PST

Gold is often seem as the ultimate inflation hedge, but perhaps it’s time to reconsider.

By Michelle Smith — Exclusive to Gold Investing News

Gold: The Ultimate Inflation Hedge?

Investors put money into gold for a number of reasons, including as a hedge against inflation. Given its soaring prices in recent years, many would say that gold is the ultimate inflation hedge. Yet, the Credit Suisse Global Investment Returns Yearbook 2012 may prompt investors to rethink that position, as it argues that gold can fail and there’s history to prove it.

Finding assets that protect purchasing power is the primary concern of investors aiming to hedge. These individuals are focused on stability as opposed to returns that not only keep in step with inflation, but also outpace it.

The Credit Suisse Yearbook says that if gold were a reliable hedge against inflation, its real price would be relatively unwavering. However, gold is volatile and its purchasing power fluctuates.

With gold’s bull run spanning more than a decade, some investors may be unaware, some may have forgotten, or others may even deem irrelevant the metal’s broader history, as it often seems that we are experiencing unprecedented economic conditions.

But, covering 112 years and 19 countries, the Credit Suisse report brings times passed back into focus and reacquaints investors with the reality that gold has not always traveled up. On the contrary, 1980 to 2001 was a period of significant decline for the metal, which lost four fifths of its value during that time.

Prices during that 21 year span dropped from $850 to about $300, which translates into a loss of value exceeding 60 percent. To put this into perspective, one only needs to imagine the impact such a decline likely had on retirees who may have had significant portions of their wealth stored in the form of gold.

Though bullish on the metal, Goldman Sachs has said that though gold is purchased en masse as an inflation hedge, its performance in this capacity has not been consistent.

According to a research note from the firm, in 60 percent of the episodes when inflation surprised to the upside in the post-World War II period, gold has underperformed inflation.

Economist Nouriel Roubini, Chairman and co-founder of Roubini Global Economics, has a similar view, and warned that gold prices only rise in two conditions: when inflation is high and rising and when there is a fear of near depression and investors fear the security of their bank deposits.

Furthermore, there is a price to be paid for hedging. According to the Yearbook, the cost for insuring against inflation is a lower than average investment return in deflationary or average conditions, as hedging assets tend to underperform in these scenarios.

Gold is an investment metal, but it is also a commodity. However, unlike its precious kin, it isn’t particularly relied upon for any industrial purposes. When gold is not needed as protection from fears or crises, it can face significant risks of correction, according to Roubini.

Hedging strategies

Hedging reiterates the importance of a diversified portfolio. That diversity should apply to asset categories since none is without risk, and also to markets since inflationary conditions can be local and better protection can lie within distant borders.

When outlining hedging strategies, investors would be wise to weigh the benefits in addition to the potential to protect against inflation.

Equities, for example, can play a partial role in hedging.

“The real case for equities is that, over the long term, stockholders have enjoyed a large equity risk premium,” the Credit Suisse report says.

Housing was found to be relatively insensitive to inflation and to appreciate at similar annualized rates as gold. Plus, ownership satisfies the need for shelter, often provides tax advantages, and can eliminate the pricing volatility that often occurs in rental markets.

Gold, though often preferred, can put up impressive gains during a bull run such as we’ve seen in recent years, but it fails to provide a flow of income and can have low real return over the long term, the Yearbook points out.

Over the 112-year period analyzed, the real return on gold was 1.07 percent (in GBP).

Therefore, gold can play a partial hedging role in an investor’s personal portfolio, but Credit Suisse does not find it suitable for institutional investors.

 

Securities Disclosure: I, Michelle Smith, do not hold equity interests in any companies mentioned in this article.

credit suissegold investing
The Conversation (6)
Investor Last Name
Investor Last Name
12 Apr, 2012
Gold is Heavily rigged now at the comex!!You should still own gold and be buy more at low prices for as long as they can keep the rigging game going!!Food, silver, oil, land, art all have there place in a portfolio trying to protect purchasing power. And remember people when you buy REAL money, who cares what the phony price is priced in fake money!!You buy gold and silver to own their weight for when it becomes money again in the market place, and it will, it will be priced in it's own weight. I pray gold falls to $200.00 again so can take lots of fake money to buy a little bit of some REAL money!!
Investor Last Name
Investor Last Name
12 Apr, 2012
Gold is Heavily rigged now at the comex!!You should still own gold and be buy more at low prices for as long as they can keep the rigging game going!!Food, silver, oil, land, art all have there place in a portfolio trying to protect purchasing power. And remember people when you buy REAL money, who cares what the phony price is priced in fake money!!You buy gold and silver to own their weight for when it becomes money again in the market place, and it will, it will be priced in it's own weight. I pray gold falls to $200.00 again so can take lots of fake money to buy a little bit of some REAL money!!
Investor Last Name
Investor Last Name
12 Apr, 2012
I only have this to say to the writer: Some people were smart enough to buy it for about $250 around 1999 or so. Now gold is approaching $2000. How is that for inflation hedge?
Investor Last Name
Investor Last Name
12 Apr, 2012
I only have this to say to the writer: Some people were smart enough to buy it for about $250 around 1999 or so. Now gold is approaching $2000. How is that for inflation hedge?
bluecollargoldtieguy Last Name
bluecollargoldtieguy Last Name
11 Apr, 2012
"Unbiased", eh? "Therefore, gold can play a partial hedging role in an investor’s personal portfolio, but Credit Suisse does not find it suitable for institutional investors." Really? I find it absolutely amazing how people who manage money have no idea of what money, how it is valued or its three primary functions. Yeah, Credit Suisse is probably right... why would pension funds want to hedge their positions against currency devaluation and systemic risk. There's none of that out there. Hmmm... maybe I should buy some shares in Purina Cat Chow since that's all these retirees will be able to afford for dinner. "Not suitable"... wow.
bluecollargoldtieguy Last Name
bluecollargoldtieguy Last Name
11 Apr, 2012
"Unbiased", eh? "Therefore, gold can play a partial hedging role in an investor’s personal portfolio, but Credit Suisse does not find it suitable for institutional investors." Really? I find it absolutely amazing how people who manage money have no idea of what money, how it is valued or its three primary functions. Yeah, Credit Suisse is probably right... why would pension funds want to hedge their positions against currency devaluation and systemic risk. There's none of that out there. Hmmm... maybe I should buy some shares in Purina Cat Chow since that's all these retirees will be able to afford for dinner. "Not suitable"... wow.

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