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The Role of Gold in Today's Multi-Asset Portfolio


This post was written with contributions from the Gold Strategy Team—Diego Andrade, Robin Tsui and Howard Wen.

Traditionally, investors have used gold tactically with an aim to help preserve wealth in volatile markets or in times of elevated inflation or persistent US dollar weakness. But if we re-evaluate the role of gold through a different lens, we see it can potentially be a valuable strategic asset in all markets.

When building a multi-asset portfolio, investors should consider the potential or forecasted risk-return profile of a particular asset class or market segment, as well as how it will behave relative to other investments. Though asset classes with high forecasted risk-adjusted returns are obviously preferred, investors should also consider looking for asset classes that move differently relative to one another.

With these factors in mind, let’s look at four potential benefits of strategically allocating to gold in a multi-asset portfolio:

  • Increased portfolio diversification
  • Protection in a downturn
  • Preserved purchasing power
  • Enhanced risk-adjusted returns


1. Increased portfolio diversification

To help control risk, investors diversify their portfolios by holding a wide array of assets that perform differently from one another under various market conditions. A low correlation among the asset classes would lower portfolio volatility and therefore, all else being equal, increase portfolio diversification and enhance the overall risk-adjusted return of the portfolio. 

As shown below, the very low or negative historical correlations of gold to major equity markets highlight the potential diversification benefits of adding gold to a multi-asset portfolio.


Source: Bloomberg Finance L.P., State Street Global Advisors, 1/1/2000-9/30/2017
Correlations are calculated from monthly returns in USD. Asset classes are represented by the following indices—Japanese: MSCI Japan Index; MSCI AC World Daily TR Index; US: S&P 500® Index; European: MSCI Europe Index; APAC ex Japan: MSCI ASIA PAC Ex Japan Index; Latin America: MSCI Emerging Markets Latin America Index; Gold: LBMA Gold Price PM.

2. Protection in a downturn

Gold has historically been used to provide potential tail risk mitigation during times of market stress, as it has tended to rise during stock market pullbacks. As shown below, gold delivered competitive returns and outperformed other asset classes during the 2007-2009 Global Financial Crisis. Many asset classes fell in tandem, but gold’s performance was positive. In addition, gold has delivered competitive returns and outperformed other asset classes during a number of other similar Black Swan events.


Source: Bloomberg Finance L.P., 10/1/2007-3/31/2009. Past performance is not a guarantee of future results. Performance above does not reflect charges and expenses associated with the fund or brokerage commissions associated with buying and selling exchange traded funds. Performance above is not meant to represent the performance of any investment product.
Asset classes are represented by the following indices—Gold: GOLDLNPM Index; Agg: Bloomberg Barclays US Aggregate Index; Global Macro: Credit Suisse Global Macro Index; Liquid Alternative Beta: Credit Suisse Liquid Alternative Beta Index; Master Hedge Fund: Credit Suisse Master Hedge Fund Index; Long Short Equity: Credit Suisse Long Short Equity Index; Broad Commodities: Bloomberg Commodity Index; US Large Cap: S&P 500 Index; Global Equities: MSCI World Index; Emerging Equities: MSCI Emerging Markets Index.

3. Preserve purchasing power

Gold has been a long-favored inflation hedge—and for good reason. Gold has exhibited historical effectiveness in preserving purchasing power in various inflationary environments. 


Source: Bloomberg Finance L.P., State Street Global Advisors, data from 1/31/1970-9/30/2017. Past performance is not a guarantee of future results. Performance above does not reflect charges and expenses associated with the fund or brokerage commissions associated with buying and selling exchange traded funds. Performance above is not meant to represent the performance of any investment product.
Computed using average monthly gold returns and US CPI Figures from 1/31/1970 to 9/30/2017.

4. Enhanced returns 


In addition to diversification and downside protection, a strategic allocation to gold can also potentially enhance long-term portfolio returns. Take a look at the chart below and gold’s performance over the longer time horizons:


Source: Bloomberg Finance, L.P., State Street Global Advisors, as of 9/30/2017

How much should you allocate to gold?

We recently researched1 the impacts of allocations between 2 and 10% to the SPDR Gold Shares (GLD®) ETF in a hypothetical multi-asset portfolio between January 1, 2005 and September 30, 2017. We found a 10% strategic allocation to GLD would have improved the portfolio’s cumulative risk-adjusted returns and lowered its maximum drawdown, as compared to a portfolio without any gold-backed investments.

As the size and number of investable asset classes continue to grow, we believe savvy investors should position gold in a more permanent, strategic role within their multi-asset portfolios.

1Frederic Dodard and Abigail Greenway, A Case for Global Diversification: Harnessing the Global Multi-Asset Market Portfolio, IQ Insights, State Street Global Advisors ISG EMEA, as of 9/30/2017—Updated by George Milling-Stanley, Head of Gold Strategy, SPDR ETFs, Robin Tsui, APAC Gold Strategist, SPDR ETFs, Howard Wen, Senior Gold Strategist, SPDR ETFs and Diego Andrade, Gold Strategist, SPDR ETFs through 9/30/2017 

Definitions

Black Swan 
An event that is beyond what is normally in the realm of what is expected and is thus very difficult to foresee. The term was made popular by Nassim Nicholas Taleb, a finance professor and trader who has authored a number of books on uncertainty, including “The Black Swan,” a discussion on the impact of random events.

Bloomberg Barclays US Aggregate Bond Index 
A benchmark that provides a measure of the performance of the US dollar denominated investment grade bond market. The “Agg” includes investment-grade government bonds, investment-grade corporate bonds, mortgage pass through securities, commercial mortgage backed securities and asset backed securities that are publicly for sale in the US.

Bloomberg Commodity Index 
A broadly diversified commodity price index distributed by Bloomberg Indexes that tracks 22 commodity futures and seven sectors. No one commodity can compose less than 2% or more than 15% of the index, and no sector can represent more than 33% of the index.

Credit Suisse Global Macro Index
A subset of the Credit Suisse Hedge Fund Index that measures the aggregate performance of dedicated short bias funds. Global macro funds typically focus on identifying extreme price valuations and leverage is often applied on the anticipated price movements in equity, currency, interest rate and commodity markets.

Credit Suisse Liquid Alternative Beta Index
Using only liquid securities, the index seeks to replicate the return of the overall hedge fund industry, as represented by the Credit Suisse Hedge Fund Index. The index reflects the combined returns of the individual Liquid Alternative Beta strategy indices—Long/Short, Event Driven, Global Strategies, Merger Arbitrage and Managed Futures—weighted according to their respective strategy weights in the Credit Suisse Hedge Fund Index.

Credit Suisse Long Short Equity Index
A subset of the Credit Suisse Hedge Fund Index that measures the aggregate performance of dedicated short bias funds. Long/short equity funds typically invest in both long and short sides of equity markets, generally focusing on diversifying or hedging across particular sectors, regions or market capitalizations.

Credit Suisse Master Hedge Fund Index
An asset-weighted hedge fund index that includes only funds, as opposed to separate accounts. The index uses the Credit Suisse Hedge Fund Database, which tracks approximately 8,000 funds and consists only of funds with a minimum of US$50 million under management, a 12-month track record and audited financial statements.

CPI, or Consumer Price Index
A widely used measure of inflation at the consumer level that helps to evaluate changes in cost of living.

GOLDLNPM Index
An index that tracks the performance of gold.

Global Financial Crisis 
The economic crisis that occurred from 2007-2009 that is generally considered biggest economic challenge since the Great Depression of the 1930s. The GFC was triggered largely by the sub-prime mortgage crisis, which led to the collapse of systemically vital US investment banks such as Lehman Brothers. The crisis began with the collapse of two Bear Stearns hedge funds in June 2007, and the stabilization period began in late 2008 and continued until the end of 2009.

LBMA Gold Price 
The LBMA Gold Price is determined twice each business day—10:30 a.m. London time (i.e., the LBMA Gold Price AM) and 3:00 p.m. London time (i.e., the LBMA Gold Price PM) by the participants in a physically settled, electronic and tradable auction.

MSCI ACWI Index, or MSCI All Country World Index 
A free-float weighted global equity index that includes companies in 23 emerging market countries and 23 developed market countries and is designed to be a proxy for most of the investable equities universe around the world.

MSCI Asia PAC ex Japan
Captures large and mid cap equities in 10 countries across the Asian region, not including Japan.

MSCI Emerging Markets Index
The MSCI Emerging Markets Index captures large and mid cap representation across 23 emerging markets countries. With 834 constituents, the index covers approximately 85% of the free float-adjusted market capitalization in each country.

MSCI Emerging Markets Latin America Index
Captures large and mid cap representation across 5 countries in Latin America. 

MSCI Europe
A benchmark capturing large- and mid-cap representation across 15 developed market countries in Europe.

MSCI Japan
A benchmark designed to measure the performance of the large- and mid-cap segments of the Japanese equity market.

S&P 500 Index
The S&P 500, or the Standard & Poor’s 500, is an index based on the market capitalizations of 500 large companies having common stock listed on the NYSE or NASDAQ. The S&P 500 index components and their weightings are determined by S&P Dow Jones Indices.



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