[Editor’s Note: Blair Hannon is presenting at the upcoming ASX Investor Day on this topic. To learn more, register for ASX Investor Day].
 

Car insurance may not be the most interesting thing you own, but how many times has it come in handy? Whether it’s hail damage, theft or a crash – aren’t you glad you’ve got insurance in the wings ready to protect you? 

Well, that’s the role gold can potentially play in a portfolio. Much like car insurance in case of an accident, you can also seek to have portfolio insurance before stock market volatility hits. 

The world still values physical gold, so it is often used as protection if stock markets sour, or interest rates rise. 

A physical gold Exchange Traded Fund (ETF) can provide indirect access to the commodity rather than having to pick a gold miner that may experience success or take the risk of holding physical bars of gold yourself.

[Editor’s Note: Do not read the following analysis as a recommendation to buy gold. Like all investments, gold has risk. The price of gold bullion can be volatile and affected by short-term market expectations of inflation, interest rate and currency movements. Also, gold does not produce “yield”, which is a consideration for income investors. Moreover, some Exchange Traded Funds that provide exposure to gold bullion are unhedged and have currency risk. Talk to your financial adviser or do further research of your own to understand the features, benefits and risks of investing in gold.]

Did Gold Ever Really Go Out of Style?

Cast your mind back to the first market crash of the COVID-19 pandemic in March 2020. You may recall that gold prices impressed compared to equities, which were sold off across the board. 

Following this initial spike, the gold price began to cool into 2021 but it remained resilient amid volatile market and economic conditions, as shown in the chart below. This shows how investors take flight to safe-haven assets like gold during times of uncertainty because of its protective properties.

Global X Physical Gold vs ASX200 Index Total Return

Source: Global X with data from Bloomberg (as of 27 April 2023).
 

The real story kicked off in the latter half of 2022, when gold prices began to tick up again. So, what changed? Central banks around the globe started buying up gold in volumes unseen since the 1950s – adding more than 1130 tonnes of gold, worth around US$70 billion to their collective inventories in 2022, according to the World Gold Council. In fact, the central banks of Singapore, Turkey and China have been some of the biggest buyers of gold in the past six months. [1]

Although central banks do not publish their reasons for buying gold, interviews conducted by the World Gold Council reveal they tend to do so because it provides a way to diversify their reserves. 

The need for central banks to diversify may be similar for Australian investors seeking to sure up their portfolio against fears around fiat currency weakness, driven by high inflation, war and financial instability. 

And the Gold (Price) Medal Goes To?

Moving into 2023, the gold price started to tick up and catch investors’ attention. Prices have since tiptoed around all-time US highs (around US$1900. Source: Market Index) and broken the Aussie price per ounce record at AU$3000. [2]

With the gold price sitting around all-time highs some investors may wonder what to make of it. Is gold overvalued? Has the rally run its course? However, there are some key factors which suggest gold’s rally may be on a stable footing, in Global X’s opinion.

Market Momentum

The high gold price has created a flurry of capital markets activity for miners and explorers in the space. This is because cost of capital for these companies falls when gold prices are high. Consequently, there have been record amounts of share placements, bond issuances and mergers among listed gold producers. 

This activity has resulted in heightened deal flows for brokers and bankers as well as more business for miners and refiners. Ultimately, that may act to support the gold price, in Global X’s view.

Falling Interest Rates

Generally, asset prices – whether it be bonds, shares, property, or commodities – tend to perform better when interest rates and the US dollar fall. This is because investors apply lower discount rates to future returns and get forced to take more risk to seek out results. 

Gold prices go through the same motion. After more than a year of central bank rate hikes, cracks are beginning to show in the market. Notably, the collapse of Silicon Valley Bank in the US highlighted how some banks – and potentially other companies – can buckle under the pressure of rising rates. As such, many experts have suggested that interest rates may have peaked and asset valuations may increase – including gold. 

Demand Outweighs Supply

While demand for gold remains elevated, supply cannot be dialled up quickly – creating positive dynamics for potential for the commodity price to rise, in Global X’s view.

Most new gold supply comes from production rather than recycling, but mine input and labour costs have been increasing thanks to inflation. Plus, getting a new mine online can take upwards of a decade and be costly. 

The Resources and Energy Quarterly, a widely followed report from the Australian Government’s Department of Industry, forecasts Australian gold production to peak in 2024-2025 (noting forecasts are not guaranteed). [3]

In short, there is no supply-side solution to the high demand – suggesting high gold prices are likely to stick around for the foreseeable future. 

During these super cycles, gold looks appealing in Global X’s opinion. However, when market volatility pulls back, demand for gold – and by extension, its price – could follow suit. 

Risks

It must be said, if the market is wrong about the US Federal Reserve’s intentions and rates do continue to climb into the second half of 2023, the gold price could potentially fall alongside other assets, while the US dollar strengthens. 

That’s because the gold price generally subdues during periods of economic prosperity, which may be a potential risk for growth-orientated investors. 

Hence, it is important to ensure that an individual’s allocation to physical gold suits their overall investment goals and risk appetite. 

How to Use Physical Gold in a Portfolio

What does this all mean for investors looking at allocating to physical gold? First things first, an investor should consider their overall risk profile. The more portfolio insurance you need (a.k.a. the less risk you can take on), higher levels of gold could be used in your portfolio as a potential hedge against that risk – and vice versa. It may also come down to your views on markets and economic conditions. 

For instance, if you believe uncertainty or a downturn is on the way, you could increase your exposure to physical gold. 

The next step is to decide how you want to access physical gold. An ETF on ASX can provide access to physical gold via the stock market. Much like a gold miner stock, physical gold ETFs can be traded on an exchange. 

However, unlike a gold mining stock which provides leveraged exposure to the gold price, a physical gold ETF gives you direct exposure to the value of gold without the need to store the bullion yourself. Physical gold from an ETF is stored in secure vaults by the ETF issuer. 

DISCLAIMER

TGlobal X Metal Securities Australia Limited (MSAL) is a Corporate Authorised Representative (CAR No: 001274650) under the Global X Management (AUS) Limited AFSL. (AFSL No: 466778, ACN 150 433 828).

Global X Metal Securities Australia Limited is a member of the Global X Group and is the issuer of the Prospectus for the Metal Securities. Before considering an investment in these products, investors should obtain a copy of the Prospectus from Global X Management (AUS) Limited 

Investments in any product issued by Global X are subject to investment risk, including possible delays in repayment and loss of income and principal invested. None of Global X, the group of companies which Mirae Asset Global Investments Co., Ltd is the parent, or their respective directors, employees or agents guarantees the performance of any products issued by Global X or the repayment of capital or any particular rate of return therefrom.

The value or return of an investment will fluctuate and an investor may lose some or all of their investment. Past performance is not a reliable indicator of future performance.

The information provided in this document is general in nature only and does not take into account your personal objectives, financial situation or needs. Before acting on any information in this document, you should consider the appropriateness of the information having regard to your objectives, financial situation or needs and consider seeking independent financial, legal, tax and other relevant advice having regard to your particular circumstances. Any investment decision should only be made after obtaining and considering the relevant Prospectus.