With the stock market at an all-time high, we tend to ask: should we be buying gold now to hedge our risk? Is gold the perfect complement to a dividend portfolio?
Let’s dive in.
Why Gold is not a “low-risk” asset
One of the biggest misconceptions most people think of is gold as a “low-risk” asset. That’s actually not true. Gold prices can be volatile. Just like stocks, it can bounce up and down in both directions.
In fact, gold faced almost a lost decade between 2012 and 2019…
But if gold is volatile, then why do people still call it a safe haven?
Now, gold isn’t a low-risk asset. It’s a “chaos hedge”. Put it this way, gold reduces the chance that everything in our portfolio goes wrong at the same time.
For example, if stocks drop by 15%, I’d expect gold to fall by a smaller proportion. This way, there’s less panic. And it helps protect our portfolio from what we call you don’t know what you don’t know type of risk.
In case you missed my recent posts: |
Gold has survived every financial system
The thing is, gold is a physical asset that’s treated as a store of value for thousands of years. Its value has existed since 550 BC – long before the stock market, or even modern currencies were created.
Yet, no matter what happens to the economy – empires rise and fall, banks collapse, debt goes into default – gold has never gone to zero. In fact, you’ll know gold has deep culture:
- In Asia, gold jewelry has always been a form of wealth.
- In Europe, gold coins were stored and passed down through wars.
- In the Middle East, gold dowries were the standard for centuries.
You can’t print gold. Yet, you can’t create more of this asset class in a lab.
What’s driving gold prices higher?
Today gold and even silver have hit new all-time highs. Gold crossed US$5,500 per ounce. Meanwhile, silver surged past US$117. What’s driving these asset prices higher?
First things first. With geopolitical tensions rising again: Venezuela, Greenland, trade disputes and US currency pressure.
At the same time, President Donald Trump has made clear he wants a weaker US dollar to make US exports more competitive. A weaker dollar is good for trade, but it pushes investors to look for alternatives.
That’s why massive monetary institutions like central banks are shifting their traditional conservative asset allocation.
In the long run, what I’ve noticed is central banks continue to accumulate gold. This is important. I believe central banks aren’t satisfied just owning US dollars alone anymore.
No, it’s definitely not what doomsayers talk about a US collapse. It’s really because the world is becoming more polarized and uncertain.
When trust in the US dollar is high, gold prices drop. When trust in the US dollar is weak, gold goes up. Gold is ultimately a trust thermometer.
According to Barron’s: “There is now an estimated $4 trillion worth of gold held by central banks, and $5 trillion by private investors.
Calculated against $260 trillion for all financial assets, including stocks, bonds, cash, and alternatives, that works out to a global gold portfolio allocation of 3.5%, a record.”
I know, 3.5% sounds small. But the volume is staggering.
When huge institutions with massive firepower accumulate an asset class over the long-term, there’s a lot of support.
In fact, central banks typically buy gold because the US dollar is no longer seen as the only safe place to park reserves. Put it this way, countries like China and Japan are gradually diversifying their assets in US treasuries.
What’s more, China has also been stocking up on gold over the years, regardless of the price levels of this prized asset class.
Even countries like India’s central bank actively buys gold because of its high perceived value.
Gold – no country controls it. No sanctions can freeze it and no central bank can print more of it.
With massive financial institutions like central banks buying gold as a diversification strategy, it provides a quiet support for the asset class. This becomes a pretty strong case for gold.
Gold vs dividend investing – a big difference
Here’s the biggest difference between dividend and gold investing: A dividend investor can be safely secured by the predictable profits of a high-quality business.
But gold?
I admit, gold is one of the few asset classes I’ve no idea where it’s headed to. Gold isn’t backed by cash flow like properties (rental income), stocks (earnings and dividends) or bonds (coupons).
Which means, the supposed safe haven asset class is based entirely on how the market feels. That’s fine. Because what it ultimately aims to bring is a “chaos hedge”.
Would I buy gold as an investor?
Gold should be treated like any single stock position, since I don’t consider it as a low-risk asset. I’d say it’s a small position in a dividend portfolio as a form of asset diversification.
I don’t expect gold to move the performance needle for your portfolio. Instead, it’s like a shock absorber, reducing the impact of stocks when a market drawdown comes.
My final thoughts
Gold reduces the probability of what you don’t know you don’t know that could wreck your portfolio. Sometimes, that’s the most valuable role any asset can play.
As a dividend investor, I still prefer to own assets that produce future cash flow. At least I know my dividends are well secured by the predictable profits from great businesses.
Even though gold commands a quiet demand by central banks, and is considered a “chaos hedge”, there’s ultimately no intrinsic value in the asset class. As such, I prefer a small position in gold to absorb shocks from my stock and even bond positions.
Having said that, accumulating wealth in retirement should be about generating passive income – dividend, coupons, earnings etc. To me, this is the ultimate form of wealth defense.
