Unless you’ve been in a coma, you know that gold has been the hottest commodity of the last decade, quadrupling in value since 2000. That’s in US dollars, but even measured in loonies gold is up more than 164% over the last ten years. Those are impressive returns during a period when investing in stocks often felt like feeding cash into a paper shredder.
Claymore’s Gold Bullion ETF (CGL) began trading on the TSX on Tuesday, giving even Couch Potatoes an easy way to invest in physical gold. Is it time to add some of the shiny metal to your portfolio?
Let’s consider the main arguments in favour of investing in gold:
- It’s a hedge against inflation, and it retains its value even if a nation’s currency becomes devalued.
- Unlike stocks and bonds, gold has virtually no risk of becoming worthless. That makes it a safe haven in the event of financial Armageddon.
- Gold is not highly correlated with stocks, bonds or real estate, so it plays a diversification role in a portfolio.
- Gold’s price tends to move in the opposite direction of the greenback. This can protect Canadian investors who hold securities denominated in US dollars, such as the Vanguard ETFs recommended in many of our Model Portfolios.
The arguments against gold in a portfolio are also compelling:
- Gold purchased from a dealer will have a large mark-up, and it is expensive to store and insure.
- There are more precise ways to hedge against inflation. Real-return bonds are specifically designed so that their interest payments and principal value rise in lockstep with the Consumer Price Index.
- Investments in “paper gold” — including Horizons’ COMEX Gold ETF (HUG) — do not offer the safety of physical bullion.
- Gold pays no dividends or interest and has no potential for growth: its long-term inflation-adjusted return is approximately zero. According to Jeremy Siegel, “One dollar invested in stocks in 1802 would have grown to $8.8 million in 2003, in bonds to $16,064, in treasury bills to $4,575, and in gold to $19.75.”
- Canadians already have significant exposure to gold through the stock market. Of the 60 companies in the S&P/TSX 60 Index, at least eight are gold miners — notably Barrick, Goldcorp, Kinross and Teck Resources — and they make up more than 13% of the index.
The Claymore ETF overcomes a couple of these drawbacks: rather than tracking the price of gold with futures contracts, CLG holds honest-to-goodness bullion in a Scotiabank vault (although you can’t exchange your shares for gold bars). It also makes buying gold bullion inexpensive, with a management fee of just 0.5% and no need to rent a safe deposit box.
At the same time, both the Claymore and Horizons gold ETFs negate one of the potential benefits: they are both hedged to Canadian dollars, so they offer no protection against a falling US dollar. If you don’t hold any US-denominated stocks, this may be a good thing. But if you do have greenbacks in your portfolio, consider a US-listed ETF such as iShares COMEX Gold Trust (IAU) or SPDR Gold Shares (GLD). Both hold physical bullion, not paper gold, and are priced in American dollars.
So, should you add some gold to the stocks, bonds and real estate in your Couch Potato portfolio? It’s not essential, but a small allocation of 5% or 10% can be good diversifier, and perhaps some insurance against factors that can derail other asset classes. Whether you should buy gold now—with the price near its all-time high—is a question I’ll leave to the market timers.
If inflation really takes off, there will be a lot of pressure to backtrack on the rate of interest paid on “real return” bonds, which ultimately are still paper. Its one thing to issue these instruments when interest is at historically low rates, another to back them when the real economic pressure is on. I’d feel safer with the Gold.
Real-return bonds have the full backing of the federal government. Once investors start asking whether Canada will default on its bonds, they’re worrying about the wrong things.
Note also that the idea of gold as an inflation hedge is not universally accepted. See for example:
http://www.forexblog.org/2009/03/is-gold-a-hedge-against-inflation-and-currency-weakness.html
hi can you please help me understand the benefit of holding a gold ETF in USD rather than CAD? if USD and gold are inversely correlated, won’t any increase in the value of gold be negated in part by declining USD (relative to CAD)?
Doug: This a great question and one I have not been able to find much commentary about.
As I understand it, the important idea is that correlations are never tidy, they’re just tendencies. A drop in the US dollar does not always coincide with a rise in the price of gold. The degree of movement matters, too: gold is more volatile and may go way up when the US dollar goes down just a little. So there is some negative correlation (as there is with stocks and bonds), but they don’t cancel each other out.
It’s important to look at an asset class in the context of the whole portfolio, not in isolation. Let’s say you have 20% of your portfolio in a Vanguard ETF that holds stocks in USD. Adding 5% in a gold ETF (priced in USD) may provide a cushion when the US dollar falls. Other times both assets will rise or fall at the same time. Over the long term, however, you should experience less volatility.
Any new thoughts on this topic? For someone following your model portfolio strategy, is Canadian or US listed more sound? Hypothetically, it is an unregistered account…
@Sam: I don’t see any need to hold gold in a portfolio, but if you do, a Canadian-listed ETF makes more sense to avoid currency conversion and to make ACB tracking easier in a taxable account.
I know this is an old post, but somehow it seems extra timely again in this current pandemic-influenced market, as fears of hyper-inflation (either real or quite possibly over-hyped) have created a lot of noise, with the rise in cryptocurrencies (especially Bitcoin) becoming a major story as a result (among other reasons, I’m sure). As such, I would really appreciate it if you could provide an updated opinion on this area if possible. Namely, do you have any opinion on whether Bitcoin might actually have a justifiable place in a portfolio to guard against inflation (in place of or in conjunction with gold)? Or are you still confident gold is the better (and more welcomingly boring) option, if one chooses to go down that road? And, finally, with regards to the (now iShares managed) CGL ETF, it appears there is both a hedged and non-hedged option, which seems to beg the question: which is the better option for someone like myself who is pondering some allocation to gold and also has a fair amount of exposure to US equity that was purchased using US cash (converted via Norbert’s gambit) ? Thank you.
Is this the right time to buy real return bonds with inflation set to rise?
@Len: Thanks for the comment. Here’s a more recent article I did about gold:
https://www.moneysense.ca/columns/why-investing-some-of-your-portfolio-in-gold-isnt-worth-it/
As you probably know, I don’t think in terms of “should I add this asset class to my portfolio now.” If an asset class deserves a place in the portfolio, it should be a long-term strategic holding. I don’t recommend it, but if someone wanted to keep a 5% to 10% allocation to gold at all times, rebalancing when necessary, I would not argue strenuously against it. And I would use the unhedged version of the ETF.
As for Bitcoin, it’s completely different. Gold has been recognized as a valuable commodity sine the beginning of civilization. It’s hard to identify just how it is priced, but I think we can agree there will always be demand for it, and it will never go to zero. Can we say the same about Bitcoin?
@Dennis: Remember that consensus expectation for inflation is built into real return bond yields already. If the actual inflation rate turns out to be similar, then RRBs will not offer any benefit over traditional bonds. If inflation turns out to be higher than expected, then they would outperform. But this is just making a forecast. Being tactical with RRBs (that is, deciding this is good time or bad time, as opposed to holding them all the time) is an active bet like any other. Hold them all the time or not at all, but don’t try to outsmart the market.