What Good Are Hard Assets?

A Web site named "Hard Assets Investor" sooner or later must face the question, "What good are hard assets?" Perhaps that question should be preceded by one that asks, "What ARE hard assets?

The latter question can be answered from an accounting or an investment perspective. This ain't no bookkeeping self-help site, so you can guess what perspective I'm going to take here.

For people who believe that the risks of financial assets - stocks and bonds - should be balanced by noncorrelated asset classes, the world of hard assets typically includes commodities and investments that bestow exposure to natural resources.

Commodity exposure can be efficiently obtained through futures or futures indexes, while natural resources can be tasted through a variety of vehicles, the most liquid and transparent of which have traditionally been equities issued by energy, timber or metals producers.

So, let's posit a hard assets benchmark. An equal smattering of futures, natural resource company stocks and, for good measure, gold mining shares. A good proxy for the current world might be one-third, each, of the S&P/Goldman Sachs Commodity (GSC), the S&P/Goldman Sachs Natural Resources (IGE) and the Amex Gold Miners indexes (GDM).

Now, what good can be wrought by having such a benchmark? Well, let's see. Could an allocation to hard assets have provided any benefit to investors over the past three decades? Recent research indicates that a portfolio of stocks and bonds, balanced by hard assets, would have, in fact, been more efficient and less risky than holding paper assets alone.

Let's look at the data on a decade-by-decade basis (you build your portfolios to last decades, don't you?). We'll call a portfolio consisting of 60 percent stocks, represented by the S&P 500 Index, and 40 percent bonds, depicted by the Lehman Brothers Aggregate Bond Index, the "Basic Portfolio." A mix of 45 percent stock index, 40 percent bond index and 15 percent our hard assets benchmark will be dubbed the "Augmented Portfolio."

Effect of Augmenting Portfolios With Hard Assets

The numbers seem to indicate that a constant allocation to hard assets provided a better reward-to-risk proposition for most of the past three decades compared to holding stocks and bonds alone. Most important, the smaller drawdowns in the hard asset-augmented portfolio shows the dampening effect of the asset class on stock and bond market swings. That should allow the portfolio holder a better chance to recover from downturns and retain more of the gains earned in upswings.

Now, is this a definitive case for hard assets going forward? No, because, as always, past results don't guarantee future performance. But this data does point to the good hard assets could have done investors in the past.

And good is better than nothing.