In September 2011, gold hit an all-time high of more than $1,900 an ounce amid mounting debt concerns in Europe and the United States. However, its price has since declined by nearly a third, bumping along around the $1,300 mark.
Given its lackluster performance, does it still make sense to invest in the precious metal? Tony Davidow, asset allocation strategist at the Schwab Center for Financial Research, thinks so. “Gold has historically shown low correlation to traditional investments, making it attractive from a diversification perspective,” he says (see “Divergent,” below).
During the past decade, there’s been little correlation between the S&P 500 Index and gold.
Source: Federal Reserve Bank of St. Louis. Data from 06/20/2007 through 06/20/2017. The daily price of gold is taken from the London Bullion Market as of 10:30 a.m. local time and is not seasonally adjusted; the daily performance of the S&P 500 is not seasonally adjusted.
Correlations aside, there are three economic environments in which gold tends to shine:
- Geopolitical unrest: Unlike governments and public companies, gold cannot default on debt obligations or enter into bankruptcy, so it can serve as a useful hedge against losses in other areas of your portfolio during periods of economic and political unrest abroad.
- Rising inflation: As goods get more expensive, so do the materials used to produce them. As a result, the demand for gold and other commodities often increases during periods of steadily rising inflation.
- Weak U.S. dollar: When the greenback declines, investors often look for other ways to help preserve value. Thus, the price of gold tends to rise as the dollar falls.
“Gold also serves as a defensive asset—buffering volatility in times of overall market stress,” Tony says. “As a result, a small allocation to gold may be appropriate for even the average investor.”
The bottom line: A little bit of gold goes a long way.