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Gold Loses Its Luster as an Asset Class

The yellow metal has been attracting investors hunting for a bargain, but not those looking for yield.

For years it has been the conventional wisdom that gold is a legitimate investment vehicle, useful as a hedge against inflation, currency volatility and geopolitical turmoil. But now that gold is scraping five-year lows, despite the presence of copious turbulence, many experts are questioning that notion.

“The case has weakened for gold as a notable part of a diversified investment portfolio,” says Mohamed El-Erian, chief economic adviser at Allianz.

Gold has failed to benefit from global economic and political turbulence recently, including ongoing tensions between Russia and Ukraine, conflict throughout the Middle East and debt crises in Greece and Puerto Rico. Given that gold offers investors no yield, if it doesn’t rise in value during episodes like these, investors don’t have many reasons to hold it.

To be sure, some bottom-fishers have moved into gold since it hit its five-year low on August 4 of $1,085.10 per ounce. The precious metal has climbed only 5.11 percent since then, despite China’s devaluation of the yuan and the financial market carnage that followed. Gold barely moved amid Monday’s market unrest, trading at $1,159 an ounce, down 40 percent from its September 2011 record high of $1,923. Gold-mining stocks also have plummeted.

Martin Fridson, chief investment officer at New York money manager Lehmann Livian Fridson Advisors, was asked whether gold was ever a legitimate investment vehicle. “People don’t ask that about stocks; that tells you something. The fact you’re asking the question answers itself.” Historical market returns illustrate Fridson’s point. The Standard & Poor’s 500 index returned an average of 9.79 percent a year from 1980 through 2014, and government bonds, according to the Bank of America Merrill Lynch U.S. Treasury and Agency index, returned 7.93 percent. Gold returned just 2.07 percent, however, not even matching the 2.99 percent inflation rate. With the precious metal at a peak in 1980, “you might have thought that was the time to go into gold,” Fridson says. “What kind of investment vehicle was it? As a hedge against inflation, it apparently didn’t do a good job.”

El-Erian says gold did serve as a valuable investment vehicle in the past, “both as a return generator and as a risk mitigator.” But now investors have other options available to serve the same function as gold in their portfolios, he continues. For example, you can short virtually any asset class with an exchange-traded fund.

Besides, investors have another safe haven: Treasuries. “In times of turmoil you used to buy gold; now it’s Treasuries,” says Robert Sinche, global strategist at Amherst Pierpont Securities in New York. “Unlike gold, Treasuries pay a yield. Why wouldn’t you go for that?”

The disinflationary — and at times deflationary — environment that has prevailed since the 2008–’09 financial crisis also puts a damper on gold’s utility as an investment vehicle. “With the world struggling to generate growth, and with some risk of deflation, gold’s traditional inflation-hedging role has been diminished,” El-Erian says. The euro zone economy grew at only a 1.3 percent annualized rate in the second quarter, and U.S. consumer prices climbed just 0.1 percent in the 12 months through June.

Looming interest rate hikes by the Federal Reserve won’t do gold any favors, because rising rates curb inflation and make fixed-income investments more attractive compared with gold. “If gold can’t perform when global rates are near zero, and if rates increase just a little bit, that’s another reason not to hold gold and other commodities which don’t pay a yield,” Sinche says.

He and others don’t expect the precious metal to offer much value to investors anytime soon, but that doesn’t mean we should write off the asset forever, many say. Bill O’Neill, a veteran Wall Street commodities strategist now at LOGIC Advisors, a Sonoma, California–based firm that counsels on commodity markets, compares gold with stocks. “Just because the stock market goes down 30 percent doesn’t mean stocks aren’t an investment vehicle,” he says. A major currency war could break out, for instance, driving investors to gold, which is sometimes viewed as an alternative to paper currencies.

Fridson sees some merit in O’Neill’s argument. “Gold will have its day again,” he says. “Someone will call for the end of the world again, or there will be inflation.” There are limits, though. “Long term, if you’re talking about an investment, it’s not clear this is the way to build wealth for retirement or future generations,” Fridson says.

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