All that glitters

In volatile times, investors can be forgiven for contemplating safe haven assets such as gold. But is this rational, or just rash?

The case for precious metals

Both gold and silver are considered effective as a kind of portfolio insurance – to offset losses when markets are in turmoil. Gold especially is valued as a ‘flight to quality’ asset of almost the last resort, proving popular with investors concerned about fiat currency debasement.

In other words, people worried about central banks printing astronomical sums of money – whatever the subtleties of quantitative easing – gain succour from the knowledge that neither the Federal Reserve, nor the Bank of England, nor the European Central Bank has the Midas touch (at least, not yet).

In this respect, gold’s ancient allure is akin to modern cryptocurrencies: mined in limited quantities and almost uncontrollable by authorities. If you think the end – or at least deflation – is nigh, gold is the ultimate post-apocalyptic store of value.

Plus, precious metals are elementary. You don’t need to read a 93-page prospectus and have a degree in mathematics to understand what they are.

What’s more, they are immutable: jewellery worn by the Pharaohs can be worn today, impervious to the sands of time. You cannot say the same of stock markets, whose former kings have fallen away.

Finally, the long-term returns of both gold and silver have been strong. The former has increased in value, in terms of pounds sterling, almost 100 times since the start of the 1970s. Historical prices are available stretching back hundreds of years and can be reasonably well relied upon (with no ‘creative’ early standards of accounting that caveat antique stock returns!).

The case against precious metals

Neither gold nor silver produces income. They just sit there and cost money to store safely. As such, any returns you might make on them are purely speculative.

They do not, therefore, fulfil the key criterion for long-term investment – assets which produce something widely valued. Stocks, bonds and property can all give off income of one form or another, by contrast, and you effectively buy their future cash streams. When interest rates are rising, and inflation abounds, non-yielding assets are one of the very worst places to be.

Both gold and silver have exhibited handsome price appreciation in times of market crisis, this is true – but you cannot judge an investment by how it performs some of the time. You have to look at the whole.

When you do so, precious metals lose their sheen. Yes, gold rose stratospherically in the six years starting from 2005. But when you take inflation into account, an ounce in 2011 was worth pretty much the same as it was back in 1980 – that’s over thirty years of waiting to recover lost ground, earning absolutely zilch. In the meantime, the stock market climbed and climbed – admittedly with intermittent setbacks, but quite consistently when viewed through a longer-term lens. Ditto silver.

Ultimately, gold and silver are both risky pseudo-currencies, not safe havens. Gold is about as risky as a broad basket of stocks, while silver is even more so. Roughly half the return on gold in the past 50 years to a sterling investor has come from the strengthening of the US dollar, not the metal.

What about the ‘greenback’?

Speaking of US dollars, they tend to do well in a crisis. Should you stock up on them instead?

There’s a good chance you already have! At 60% of global market capitalisation, US stocks should make up a sizable proportion of any equity allocation. The dollar exposure acts as happy ballast in ‘flight to safety’ episodes such as the Financial Crisis.

It’s a nice ‘automatic benefit’ that you get from holding a globally diversified portfolio tilted towards equities, without hedging the currency exposure. There is therefore no need to go out of your way to purchase US dollars in their own right.

In fact, if you are concerned about potential losses, or have a financial requirement for minimal declines, then your portfolio should be as minimally volatile as possible. The USD-GBP exchange rate is just such a source of volatility. But it is one which, again by happy coincidence, shrinks as you move away from equities and towards (currency-hedged) bonds and cash, which make up increasing proportions of portfolios at lower risk levels. Automatic risk control.

False sense of security

Whatever we think of quantitative easing, the dollar’s enduring status as the world’s ‘panic room’ currency shows why the US still has little need of crypto alternatives. It is the populations of economic basket cases, suffering serial misrule, whom it is argued may gain from plausible alternative coinage, breaking the state’s monetary monopoly and introducing much needed competition in taming inflation.

Sensibly constructed portfolios come with dollar airbags as standard, so beware more esoteric so-called ‘safe-havens’. They are cold comfort – fickle friends offering an emotional bailout when times get tough. But remember, nothing’s free – you could well pay dear eventually.

Important information
Investments can go up and down in value and you may not get back the full amount originally invested