With the economy volatile, many Americans are wondering if they should turn to one of the oldest investments on earth: gold. And the answer depends on your portfolio. But what about during a recession? Is gold still a wise choice? Many feel that gold, due to its historical value, is an investment safe for everyone even with an economic downturn. Let’s find out.
For help diversifying your portfolio with precious metals, consider working with a financial advisor for guidance.
Why Is Gold Valuable?
Gold’s value is a social construct, meaning its worth is all based on what value society places on it. Gold is valuable, because we all agree it should be and historically it always has been and in assumption always will be.
Even with its lack of practical uses beyond the aesthetic, gold has been a valuable precious metal for centuries dating back to 550 B.C.
Gold Price Correlations
Gold has multiple drivers and factors that affect the price. However, not all of those drivers are direct correlations. The only two correlation that will definitely move the price up or down is supply and demand. Factors such as inflation and currency devaluation play their part, but even their base correlation rests with supply and demand.
Supply: Gold is a finite resource, there will come a time when what’s available in the market will be all there is. However, what keeps the price somewhat affordable is the fact that gold, unlike oil, is not consumable. Any gold that was mined in the past is, for the most part, still in circulation whether in the open market or in someone’s jewelry box.
Demand: Gold remains to be a status symbol as well as a monetary symbol. Demand fluctuates but will eventually outweigh supply. As inflation increases or the value of the U.S dollar fluctuates, the interest in purchasing gold typically fluctuates as well. This leads to a price change.
Gold And the Recession
Gold possesses its share of unique qualities that make it an attractive buy-in for many people. It has aesthetic appeal and a longstanding history, but it can’t strongly support the weight of a “recession-proof” label.
Gold can be a benefit to your portfolio in low amounts, but trusting it as a bulk portion of your holdings can leave you vulnerable to risk with no reward.
Do Gold Prices Go Up in a Recession?
Traditionally yes, gold prices trend upwards when inflation brings the value of currency down. Gold performs inversely to market conditions in this way, but this is not always the case. Gold can be just as vulnerable as the stock market if investors choose to not seek it out. Again this is the product of something’s value being based largely on social perception and popularity. If we all woke up tomorrow and decided gold was worthless, the price would plummet.
Common Misconceptions of Gold
Gold has a long-standing reputation as a stable asset that can always be trusted to hold its value and hedge against volatile economic performances. But we would argue that its history and random value shifts don’t make it as consistent as you think. Here are three common misconceptions that the average investor should be aware of.
When Inflation Rises So Does The Price of Gold: False
Gold can still have poor performance during inflationary periods. In the 1980s for example, inflation rose around 6.5% yet gold prices did not increase. In fact, gold prices over that four-year period fell 10%. This took place again between 1988-1991 when gold prices dropped 7.6% during a 4.6% inflationary period.
This isn’t to say that the price of gold typically doesn’t rise during inflation, only that it’s not a hard-set fact. Investors need the entire economic picture to make a decision about how gold will perform.
Gold Always Works Well As A Hedge Against Inflation: False
Gold has mixed reviews and a mixed track record to match. A great hedge against inflation is anything that is used to offset a drop in currency prices by providing stability. For example, residential real estate. Residential real estate holds its value and even gains value during market fluctuations primarily because the economy will always have a strong need for residential property.
As discussed above, gold is neither a tool that can be put to use nor is it consumable. So unlike real estate which gains its value through persistent need/demand or oil which gains its value through being a consumable finite energy resource, gold is based on unstable attributes. The bottom line stands while gold has its virtues, it’s ultimately unreliable.
Gold Is Always A Smart Option For Your Portfolio: False
Gold, unlike real estate or stocks, is a “dead asset” — meaning it generates interest. Also, gold can be highly volatile, as we’ve discussed previously. These two qualities make it unfit in terms of “always” being a smart investment.
For example, those trying to save and invest for retirement need a primarily stable portfolio with minimal risk and predictable returns. Gold’s cyclical performance makes it a poor choice in this instance.
The Bottom Line
Gold is not consistent enough to be a recession-proof asset. Gold can be used for diversification to round out a portfolio but only in calculated amounts. Thinking that gold can protect you every time a recession hits is an overly optimistic outlook.
Tips for Investing
- A financial advisor can help you reach your investment goals. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- Counter-cyclical assets are an incredibly important part of any portfolio. If you have everything invested in just one asset class, you set yourself up for poor market downturns. When assessing your portfolio, it’s important to understand the types of risk that you will face.
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