Is a position in gold consistently effective in protecting a portfolio of conventional assets? In the August 2014 preliminary version of their paper entitled “Does Gold Glitter in the Long-Run? Gold as a Hedge and Safe Haven Across Time and Investment Horizon”, Don Bredin, Thomas Conlon and Valerio Potì examine the hedging, safe-haven and downside risk reduction properties of gold relative to stocks and bonds in four major markets and across short and long investment horizons. In their examination, they employ wavelet analysis which enables localization of asset class interactions over time and across investment horizons. They apply this analysis to definitions of a hedge (safe haven) as an asset that is uncorrelated or negatively correlated with another asset or portfolio on average (in times of market stress or turmoil). They use a breakpoint of about a month to separate short-run from long-run behaviors. Using daily data for the spot price of gold, equity indexes and 10-year government bond indexes in local dollars for the U.S., UK, German and Japanese markets during January 1980 through December 2013 (except Japanese bond data commences January 1984), they find that:
- The average annualized return for gold ranges from 0.02% in Japanese yen to 3.2% in British pounds. Gold consistently has the highest annualized volatility, followed by stock indexes and bond indexes.
- Gold consistently acts as a short-run hedge for all stock and bond indexes, but may not be a hedge over the long run.
- Gold acts as a safe haven for equity and debt investors during financial crises across all horizons. However, during the economic recessions of the early 1980s, gold does not act as a safe haven and instead amplifies portfolio risk.
- In the short run (less than a month), gold moderates stock and bond portfolio crashes. However, for longer horizons, gold tends to increase downside risk, especially during economic recessions.
In summary, evidence suggests that gold mostly adds only short-term diversification value to portfolios of stocks and bonds and that gold does not offer protection during economic recessions.
Cautions regarding findings include:
- Use of indexes and spot gold prices ignores the costs of tracking such series via liquid funds. Accounting for these costs would reduce reported returns.
- The study does not address the conundrum of obtaining short-run portfolio diversification benefits of a position in gold without holding gold over the long term to ensure it is in the portfolio when needed.
