Gold has enchanted humanity for millennia. From ancient pharaohs interred with the golden wealth of their kingdoms to today’s central banks guarding vast hoards of the stuff, its lustrous possibility knows no limits of time, culture, or economic paradigm. But in addition to its beauty and historical significance, gold occupies a unique position among financial assets. In the age of digital currencies, complex derivatives and fast-changing markets, the age-old question remains: Why invest in gold?
Gold’s investment characteristics differ significantly from those of a tech startup or a dividend-paying stock, leading to different future potential, in the same way that not all rainbow-colored unicorns are built to last. There’s something else, and it’s not genial chasing returns: It’s about stability, preservation, protection. Now, here are on GoldZeus.com some of the most fundamental reasons why small as well as institutional investors still flock towards gold.
A Proven Hedge Against Inflation
One of the top reasons why gold is sought after is its historical role as a hedge against inflation. They call inflation the silent thief, meaning it prevents your money from being worth as much ten years from now as it does today. A dollar, pound, or euro now doesn’t go as far as it did ten or twenty years ago. With governments printing more money or pursuing expansionary monetary policies, fiat currency generally loses its value.
Gold, on the other hand, has limited supply. It cannot be created out of thin air by a central bank. Its supply increases at a relatively modest pace, mostly through mining, an expensive and difficult endeavor. Consequently, as the value of paper money depreciates (through rising inflation), the equivalent price of gold, expressed in those expired units of currency, tends to rise.
To put it another way: over long stretches of time, the quantity of gold necessary to purchase a given basket of goods (say, a decent suit or a loaf of bread) has not changed nearly as much as the quantity of currency required to do the same thing. Whereas currencies lose purchasing power, gold tends to hold on to it. In high inflation or high anticipated inflation environments, investors tend to rush into gold to protect their capital’s real value. When the value of paper currency is drifting there is it an anchor to the monetary system.
A Safe Haven in Times of Uncertainty
Financial markets hate uncertainty. Geopolitical tensions, economic recessions, stock market crashes, pandemics, or unforeseen political developments all have the potential to disrupt traditional asset classes such as stocks and bonds. In times like these investors tend to “fly to safety” in assets that are considered stable and reliable. Gold has long been one of the main beneficiaries of this trend.
Why? Gold has a number of characteristics that make it appealing in times of crisis:
- Tangibility: Gold is a real-world asset that you can touch, unlike many historical stocks or bonds that exist only as digital entries or promises. It gives a psychological sense of security.
- No Counterparty Risk — A stock is ownership in an entity that can (and does) go bankrupt. A bond is a loan to a borrower who could default. Gold has no such counterparty risk. It doesn’t rely on anyone’s promise or solvency.
- Global Acceptance: Gold holds universal value, since it is not subject to the same local currency fluctuations or government stability. And it has a broad, liquid market around the world.
Gold tends to sparkle when confidence wanes in financial institutions, governments or the broader economy. Its price typically goes up in times of crisis, functioning as a type of financial insurance against systemic risk.
The Art of Mixing Portfolio Investments
There is a golden investment rule: diversify, diversification is a key component of a portfolio, especially for traditional investing. The goal of diversification is to minimize the overall risk of the portfolio by combining assets which behave differently in a variety of market and economic conditions. This is where gold shines in utility!
Gold generally has low or even negative correlation with classical financial assets such as stocks and bonds. This means that gold prices tend to hold steady or even rise when stock markets are falling, or fall when stock prices are rising.
- During economic booms: Stocks usually do well, as companies grow profits, and gold may lag behind, as risk appetite increases, and inflation or stability becomes less of a concern.
- During economic downturns or crises: Stocks usually take a severe beating, and gold’s safe-haven allure can push its price higher.
As a complement to equities or fixed income, adding an asset (such as gold) that doesn’t move in lockstep can help smooth a portfolio’s returns, lowering volatility and lessening the pain of deep drawdowns in other asset classes. A small allocation in gold (usually recommended around 5-10%) can improve long-term risk-adjusted performance of a diversified portfolio.
Store of Value and Wealth Preservation Long-Term
Gold is not generally considered an income-producing asset — it doesn’t pay dividends, interest or rent. For many long-term investors, its role is mainly wealth preservation. Gold has maintained its value over not just generations but centuries in a way that has eluded other assets, and certainly all fiat currencies.
Governments can devalue currencies, and currencies inflate. Empires come and go, and as a rule, so do their currencies, which ultimately degenerate into worthless historical relics. Gold, however, endures. It’s a store of value outside the traditional financial system, preserving purchasing power over long stretches of time. This is especially appealing for the purpose of transferring inter-generational wealth, or for a bedrock asset meant to endure any storm over decades, not years.
The Tangibility and Universal Acceptance
In an increasingly digital world, some investors find a unique appeal in the tangible nature of physical gold (coins and bars). You can say that a physical asset has direct control and ownership that digital assets or paper have no way of replicating.
In addition, gold is a globally accepted commodity. Gold is known and accepted as valuable, whether you happen to be in New York, London, Tokyo or Mumbai. That liquidity — that you can usually buy or sell it anywhere in the world with relatively few transaction costs — means that it is a very reliable store of value, especially when compared to less liquid assets like real estate or collectibles.
The combination of strong demand and limited supply dynamics
Conventional wisdom notwithstanding, the gold market is a dynamic one, and several supply and demand drivers exert influence on the price, which can help boost the metal’s price appreciation potential:
- Demand for investment: (inflation, uncertainties, diversification, factors we have already discussed).
- Demand for Jewelry: A major catalyst, especially in India and China, highly associated with traditions and growing affluence.
- Demand: Central banks around the world have diversified into Gold and continue to do so as evidenced by massive increases in annual gold purchases in recent years (in figures below are presented relative to the size of the domestic economy).
- Industrial/Technological Demand: The conductive, resistant qualities of gold make it indispensable in electronics, dentistry, and aerospace, guaranteeing at least a minimum level of industrial demand.
On the supply side, it is becoming increasingly more challenging and more expensive to find and develop new gold mines. Peak gold is a hotly debated topic, so future growth in supply is likely to be curtailed. And this mix — potentially rising demand across a variety of sectors and constrained new supply — can exert upward pressure on prices over the long term.
Important Considerations
The case for investing in gold is compelling, but it’s important to be aware of potential disadvantages:
- No Yield: Gold doesn’t generate an income stream, such as dividends or interest. Its return only comes from price appreciation.
- Volatility: In the short term, gold prices are prone to volatility, which can be affected by market sentiment, currency fluctuations, and speculative trading.
- Storage Costs/Risks: Physical gold must be stored securely, which involves costs (safe deposit box, specialty vault) and risks (theft).
- How to Invest in Gold: There are many ways to invest in gold: physical bullion (coins/bars), gold ETFs, mining stocks, mutual funds, or futures contracts. Each option has its own risk/reward profile, costs and tax consequences.
Conclusion: The Role of Gold in a Contemporary Portfolio
So, why invest in gold? As it provides a unique blend of characteristics that no other asset class can offer. It is a hedge from the ravages of inflation, a port in the storm of financial crises, an effective diversifier that can stabilize portfolio returns, and a timeless store of value that has maintained wealth for thousands of years.
Gold isn’t a get-rich-quick scheme. It is now a strategic asset for wealth preservation and risk management over the long term. Despite its performance being volatile, its core function as a monetary metal and a physical store of value is pertinent, in particular during the intricate and frequently uncertain global economic scene of the current time. Now, for investors looking to develop a well balanced, diversified portfolio to withstand varying economic environments, allocating towards gold should be thoughtfully considered. In an ever-changing world, it’s the timeless asset that still shines, providing a bedrock of stability.