Why Gold Might Be A Better Investment Than Bonds Or Stocks

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Includes: DGL, DGLD, DGP, DGZ, DIA, DZZ, GLD, GLDI, GLL, IAU, OUNZ, PHYS, SGOL, SPY, UBG, UGL, UGLD
by: Daniel Schönberger
Summary

Gold as an investment has outperformed the US stock market – especially the two major indices Dow Jones Industrial Average and S&P 500 – in the last few months.

Among the investments generally considered to be a safe haven (cash or treasury yields), gold might have the highest return in the next few years.

While Warren Buffett is known for his opposition to gold, Ray Dalio thinks that gold should be included in a well-balanced portfolio.

Technical analysis suggests that investing in gold could be a bitter pick than stocks or treasury yields and is also better than staying in cash.

During the last few days, we saw an impressive bullish momentum for gold (GLD). The stock broke out of its corrective pattern it was stuck in since February 2019 and supported by the 200-day simple moving average; the precious metal increased more than 5% within just five days before it entered a small corrective phase.

Gold as an investment

(Source: Pixabay)

At the end of August 2018, I published an article where I argued that everybody should own physical gold. At the time of publication, gold was trading at $1,200 and has since then increased almost 12%. That by itself is certainly a decent return, but when comparing it to the three major US indices, it gets even better. The Dow Jones Industrial Average (DIA) lost 1.01% since then, the S&P 500 (SPY) lost 0.36% and the Nasdaq-100 (QQQ) lost even 2.38% and gold has quite easily outperformed the US stock market since summer 2018.

Over the last three quarters, gold was a good investment, but we rather want to know if gold can also be a good investment in the future. In the following article I will once more demonstrate why everybody should own (physical) gold. I will also show why it might still be a good time to buy gold despite the price increase since August 2018.

Good Investment Compared To Stocks

Gold has been a good investment in the past nine months and I am confident that gold will be a good investment in the next few years. I am especially confident that gold will be a good investment relative to equities (and especially to US equities). The better performance compared to US equities will not only stem from the potential bullishness of gold, but rather from an expected horrible performance of US equities in the next few years.

As I have demonstrated in many articles, I think the US stock market has reached the cycle peak (or is at least very close to it) and when deciding what to buy over the next few years, stocks are at the bottom end of my “shopping list.” It is not an unlikely scenario that US equities might decline 50% (or even more) over the next two years and while the performance of gold might also be mediocre, the relative performance of gold compared to US equities will be very good.

There is not much correlation between equities and gold. And it is unlikely that declining stock prices will lead to a rising gold price, but there are other factors that could influence gold as well as equities. When risks and uncertainties around the world rise, it has usually a negative effect on stock prices as the economy might suffer, companies stop investing, unemployment rises and the profits of companies decline. On the other hand, gold might profit from the same scenario as investors see gold often as safe haven.

Good Investment Compared To Bonds

But gold is not the only investment that is considered to be a safe haven – it is competing, for example, with cash or treasury bills. Assuming that one doesn’t want to stay in cash, treasury bills would be the major competition for gold as safe haven. But when looking at the current development of long-term bonds, we see lower and lower yields making these investments less attractive for investors.

Chart Data by YCharts

Of course, lower yields are showing high demand and are showing that investors are buying bonds. But the low yield could lead to more and more investors buying gold instead of 10-year (or 30-year) US treasury bonds. The market is also expecting that the Fed will lower rates in the not so distant future and apparently the market has already priced in three rate cuts already. But lowering the Federal Funds rate might lead to further declining interest rates and also put pressure on the dollar. This could also lead to a rising inflation. All factors together (rising interest rates and rising inflation) are bullish for the gold price.

Technical Picture

Another aspect that seems to be rather bullish for gold (as well as GLD) is the current technical picture. When looking at the monthly chart, we see gold reaching its all-time highs of almost $2,000 in 2011 and since then the precious metal was in a corrective phase and dropped to almost $1,000. Right now, it looks like gold is forming a bottom, but it could also be the corrective wave of the previous bearish wave before another bearish wave will follow. Technical analysis is mostly about showing scenarios that are probable and I currently see the odds for a bullish scenario being much higher. But it is also possible that gold is declining further and for example, after a failed bullish breakout gold might turn very bearish again and even break through the black upward trendline.

Monthly gold chart

(Source: Own work created with Metatrader4)

For several years, gold has been trying to break out over the resistance zone between $1,366 and $1,392 as well as the declining black trend line. But we are seeing a series of higher lows and if gold should manage to break through the mentioned resistance levels it would be a bullish sign for gold and the correction could be over and gold as well as GLD might enter a new major upward wave with the next target being the former lows (marked blue) at about $1,530. We also saw gold break the red downward trendline and already pulled back to the trendline several months ago, which I would also see as a bullish sign. But like I said above, this is only one possible scenario.

Weekly gold chart

(Source: Own work created with Metatrader4)

Taking The Long-Term Perspective

When looking at the last decade, we can see that stocks clearly outperformed gold over the long run. The blue line is the Dow Jones Industrial Average, which gained about 30,000% over the last century, while gold gained about 6,500% in the same time frame. There have been times when gold outperformed the US stock market and if the stock market should decline to its long-term regression line (about 65% decline) and gold gain in the coming months, the difference would be not nearly as impressive as it is right now. We should not forget that gold is trading well below its all-time high, while the Dow Jones Industrial Average is close to its all-time high after a 10-year bull market run. So, comparing the two right now gives the US stock market a bit of an unfair advantage.

Performance of Gold vs. Dow Jones Industrial Average

(Source: Macrotrends)

But we still have to acknowledge that stocks (or in this case: US stocks) are the better investment of the two. Does that mean gold is not interesting for investors or that investors should avoid gold? Famous investors like Warren Buffett are considering gold not to be a reasonable investment (although he owned silver many decades ago). Buffett’s problem with gold is that it has no utility, it doesn’t generate earnings and it doesn’t pay a dividend. Contrary to Warren Buffett, Ray Dalio considers gold to be an important asset class that should be part of a diversified portfolio. In Dalio’s “All Weather Portfolio” gold makes up 7.5% of total assets and as gold is not correlated to stocks it is a good addition as this will lower the overall volatility of a portfolio.

My main focus is on stocks for several reasons:

  1. Good companies outperform gold easily and, in most times, even the major indices outperformed gold.
  2. Gold is not generating any earnings and is paying no dividends, so I have to sell it if I need money (for whatever reason), while dividend stocks generate a constant income stream.
  3. It is extremely difficult (or even impossible) to calculate a fair value for gold as gold doesn’t generate earnings and it doesn’t have an intrinsic value. And although I would argue that gold has definitely some value – compared to Bitcoin (BTC-USD) for example – it is difficult to say if gold should be worth $100, $1,000 or even $10,000.

But gold should be part of every portfolio as gold has been around for centuries and is showing extreme high levels of consistency. When looking for great investments (stocks for example) I focus on the aspect of consistency. When a company has been around for centuries and managed to live through several crisis, I am confident it will do so in the future. In case of gold, people in many different centuries considered gold to be valuable and I assume this attitude will continue in the future. As gold is also limited, I would see it as a solid investment. Everybody should have between 5% and 10% of his or her total assets in gold. I would also suggest to buy physical gold as it could become valuable in case of a crisis when most other assets either can’t be traded (because stock exchanges are closed) or lost their value (other forms of money, for example). What might sound like an extreme scenario has happened several times in the past and could happen again. Although it might sound ridiculous right now, being prepared could pay off – and if the worst case won’t happen (hopefully), you won’t lose anything by owning gold in physical form (you have to find a safe place to store it). Of course, one can also hold the SPDR Gold Trust ETF, for example, and can profit from price increases and also can generate a well-balanced portfolio that does include gold.

Conclusion

Gold is certainly not the best long-term investment and should be viewed only secondary to investing in high-quality equities as gold generates no income and is paying no dividend. But right now, there are several reasons to own gold anyway. First of all, it is a safeguard in times of trouble and although I don’t want to paint a picture of gloom and doom (financial collapse, trade wars, cold wars or hot wars) unexpected things can happen as they happened in the past and will happen again – we just don’t know when and should pray it won’t happen during our lifetime. A second aspect that speaks for gold as an investment is the current situation: the declining Treasury yields, the technical (bullish) picture and the likely political turmoil and potential declining stock prices speak for gold as a good investment over the next few years.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I own physical gold.