By Paul Ploumis (ScrapMonster Author)
November 24, 2015 03:07:11 AM
CME Group believes that gold is still a great portfolio diversifier in the long run, even though the short term outlook on prices remains pessimistic.Is Gold Still A Good Investment or Just A Pet Rock? – CME Group
(Kitco News) - As investors shy away from gold given the metal’s continuous decline and imminent U.S. interest rate hike, one senior economist says that although he remains pessimistic on the yellow metal in the short term, historical data still proves it remains a great portfolio diversifier.
CME Group’s Erik Norland said that although it is difficult to say with certainty whether or not gold is a good investment, he looked at historical data to decipher if gold was useful in portfolios in the past.
“To do so, we compare the risk-adjusted excess returns of gold to the risk-adjusted excess returns on stocks and bonds,” he said.
The four main results based on his research report released on (date) showed that: having gold in the portfolio was “marginally beneficial” both in the shorter and longer terms, the ideal gold allocation was around 10-15% of portfolio risk, gold has much lower risk-adjusted excess return over time than either government bonds or stocks, and since gold has a low correlation to both stocks and bonds, it makes it a “useful portfolio diversifier.”
However, Norland remains pessimistic on gold in the short term and the reason for it is not necessarily the same as the market consensus - U.S. rate hikes - but rather related to mining.
“Those familiar with our research will know that we aren’t especially optimistic about gold in the short term because we think that it’s driven by mining supply to a much greater extent than most people realize, and that mining supply, in our view, is likely to continue growing,” he continued.
“Our perspective on mining supply appears to be in the minority. Many analysts think that gold-mining supply is likely to come down significantly in the next few years. If mining companies begin shutting down production, it would be bullish for gold,” he explained.
Norland also noted that he does not see inflation becoming a major problem, which would in turn be negative for gold.
“The Fed seems to disagree, however. If they didn’t think that inflation was a threat at all, they probably wouldn’t be considering raising rates,” he said.
“To the extent that they tighten, however, this should be negative for gold as it will quell inflation fears while, at the same time, highlight the contrast between (near) zero interest rate gold deposits and rising interest rates on T-Bills and other short-term interest rate instruments in the U.S.”
However, Norland noted that his apathetic short-term sentiment towards gold is also shared with equities and bonds.
“[W]e wouldn’t be surprised if fixed-income returns are close to zero or even negative, after inflation, over the next decade or so,” he said.
“Equities present a more complex picture… corporate profits aren’t growing very quickly and with the Fed apparently getting ready to hike rates, the cost of capital might begin to increase slightly,” he noted, adding that equities in Europe and Asia, on the other hand, are cheaper and may outperform the S&P 500 in coming years, especially if the U.S. dollar remains strong.
Based on Norland’s research, the benefits of diversification historically come mainly from stocks and bonds rather than gold, but with the data he gathered, he saw that the yellow metal still added value to an investor’s portfolio.
Courtesy: Kitco News