The dollar price of gold has shot up past $1,300 per ounce, and it has held above that mark for now. Gold has been a lackluster investment since 2011, while U.S. stocks have been in a bull market.
Is all of this about to change? And if gold keeps going up, can it go up if stocks fall?
Gold and stocks have a rather strange correlation. There are times they go up and down together, and there are times that they go in opposite directions. But they aren’t completely uncorrelated either. There is news that can drive prices for both assets. This is especially true when it comes to news of the Federal Reserve.
Over the long run, both gold and stocks benefit from a loose monetary policy from the central bank, particularly in nominal terms. In real (inflation adjusted) terms, this is a lot harder to argue.
If there were no monetary inflation, then it is likely that neither gold nor stocks would rise with any significance over long periods of time. It wouldn’t necessarily make them bad investments. In a relative free market, they would both gain purchasing power. In the case of stocks, you could still own stocks for dividends. Of course, some individual stocks would do well in terms of capital gains on share prices, but the overall market would likely be relatively flat. The best companies would get rewarded with higher share prices, as they would have the potential of paying out greater dividends.
In our current world of central banking, we have artificial booms and busts to deal with. Both assets will tend to overshoot in both bull and bear markets. Stocks are likely going way above where they should be right now, and they could still go higher yet. But when the bust comes, they will probably over correct and fall further than they should. This is mostly due to monetary policy though. We wouldn’t have these huge bubbles and subsequent corrections if we didn’t have significant central bank monetary inflation in the first place.
Overall, I think gold is a decent investment right now. And as usual, it is a great insurance policy against unforeseen events in the world. It is a hedge against disaster. It is a hedge against big price inflation.
I advocate a permanent portfolio, which consists of 25% gold. And while I am highly nervous about stocks right now, the portfolio also has 25% in stocks. If we hit a deep recession, then the other 50% in bonds and cash will hold things up. As long as it isn’t an inflationary recession, then bonds are probably the best place to be.
Gold is something of a wildcard with a recession. It would typically go down with other asset prices. But since it is a hedge against disaster and uncertainty, it might hold up better this time around. There are a lot of things to make people nervous.
Also, if there is a recession, there will be anticipation of the Fed stopping its hiking of its target interest rate. There will also be an expectation that any talk of a reduction in the Fed’s balance sheet would cease. In fact, there would probably be good reason to speculate on QE4, which would be another round of digital money printing (a further expansion of its balance sheet). Ultimately, this would be bullish for gold.
Until we hit that phase of another round of monetary inflation, I don’t expect gold to spike higher. Sure, it could easily go to $1,400 or $1,500 per ounce. But barring a major war or some other world disaster, it probably isn’t going to $2,000 any time soon. There just isn’t enough fear of price inflation.
If the Fed returns to an ultra-loose monetary policy because of a recession, then perhaps inflation fears will return. But until that happens, $2,000 gold is not likely in the near future. This doesn’t make it a bad investment, but just one that you shouldn’t count on for having really high returns.
I have some speculative investments in gold funds right now. These are funds that invest in gold (and other metals) mining stocks. They are more leveraged and far more volatile than the price of gold. But when gold is going higher, as it has in the last few weeks, the mining stocks shine. I am fully aware that these carry a high degree of risk in the event of an economic downturn.
If economic conditions stay about the same, I expect the gold price to end 2017 somewhere near its current price. Maybe it will get to $1,400 or pull back to $1,200, but I don’t expect much more volatility than that.
The volatility will come with changing economic conditions. If stocks fall hard and a new recession hits, then gold investors will react. I would expect prices to go down, but in today’s crazy economic world, anything is possible. I like the 25% gold holdings in the permanent portfolio. It is there for a reason.