Gold Vs. Stocks

Summary

• Gold posted strong returns in the third quarter of 2019 amidst a general flight to havens.
• This article looks at the long-term returns of the S&P 500 vs. gold.
• Gold has produced lower total returns with higher variability.  While it has had success in risk-off environments, it has proved to be an expensive hedge.

I have written over 700 articles on Seeking Alpha covering a wide variety of topics across the financial markets landscape, but have never authored about Gold (NYSEARCA:GLD). Gold is recently having one of its episodic moments. Amidst weakening global economic data, falling real yields on fixed income assets, and rising geopolitical tensions, there was a flight to haven assets in the third quarter of 2019. Treasuries, defensive stocks, the U.S. dollar, and gold were among the winners. On the quarter, the price of gold rose roughly 4.5% as global stocks posted negative to middling returns.

While the gold bugs rejoiced at the relative outperformance versus stocks, I want to take a moment to put the long-run performance of gold into context versus U.S. equities for Seeking Alpha readers. Using data back to 1974, I have tabled the performance of Gold, the S&P 500 (VOO), and a long duration U.S. Treasury index (TLT). I used 1974 because it is coincidentally during the Nixonian transition of the U.S. off the gold standard, and the first full available year of data for the now named Bloomberg Barclays Long U.S. Treasury Index.

As you can see below, Gold has produced the worst returns of the three series with the highest volatility over this long time series. The volatility of gold has been nearly two times that of stocks, which may come as a surprise to those who view it as a haven.

In spite of these flagging risk-adjusted returns, Gold has certainly had its moments. In the stagflationary environment of the mid-1970s, amidst the move to fiat currency globally, gold soared by 72% in 1974 as the S&P 500 sold off by 26%. During the collapse of the tech bubble, the S&P 500 shed 38% for the calendar years 2000-2002 while Gold rallied 21%. During the annus horribilis that was 2008, the S&P 500 lost 37% while Gold rallied roughly 6%.

In the following table, I calculated the correlation of these three assets. Not surprisingly from the anecdotal tales of positive returns for gold in risk-off environments, it has a negative correlation with U.S. stocks (r=-0.19).

When two assets have low or negative correlation, combining them into a portfolio often produces less variable returns. With Gold underperforming stocks by roughly 5% per year over the past 45 years, we know that adding gold to an all-stock portfolio does not increase absolute returns. Does it enhance risk-adjusted returns though? To answer that question, I looked at a three asset portfolio - stocks, bonds, and gold, and solved for the weights that would produce the best absolute and risk-adjusted returns. Definitionally, the best absolute returns were in a 100% stock portfolio. The best-risk adjusted returns came from a 100% bond portfolio. Gold had a zero weight under both optimizations. There are years when owning gold is great, but there are too many long stretches when gold hampers portfolio performance. Gold ended 1980 at 590/ounce. It ended 2005, a quarter century later at $517/ounce.

The low realized return of gold does not come as a surprise to me. As a precious metal that acts as a store of wealth, but one that has not seen rising utility over time, the return to holding gold should probably be something akin to long-run inflation less a storage cost. Since 1974, the average rate for the Consumer Price Index published by the Bureau of Labor Statistics has been 4.0%. Maybe from that perspective gold has actually outperformed, potentially benefiting from a rise in financial market utility as the dollar detached from gold.

While gold has generated a modest real return, it has been crushed by the returns of stocks. A $100 investment in gold in 1974 would be worth $1102 today while $100 in the S&P 500 would have grown to $9583.

With the rising amount of negative yielding assets, it might pay to remember that gold is a zero yielding asset that investors have long paid to hold securely. I will not be adding gold as a financial asset even as others extol it as a virtuous "hedge". Over time, that hedge has been costly to portfolio performance.

Disclaimer: My articles may contain statements and projections that are forward-looking in nature, and therefore, inherently subject to numerous risks, uncertainties, and assumptions. While my articles focus on generating long-term risk-adjusted returns, investment decisions necessarily involve the risk of loss of principal. Individual investor circumstances vary significantly, and information gleaned from my articles should be applied to your own unique investment situation, objectives, risk tolerance, and investment horizon.

Analyst’s Disclosure: I am/we are long SPY. 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.

Comments

[Learner16]

Interesting article, thanks.

[Ploutos]

I added some additional thoughts on Gold vs. Stocks by looking at rolling returns over 1, 3, 5, 10, 20, and 30-year periods.

seekingalpha.com/...

[S Suen]

Given the long term return of equities far out performed any hedge like Gold or Bonds even taking into account of market crash and recession, there is no reason to add gold or bonds into our portfolio unless the portfolio is over leverage or the investor has very tight tolerance on drawdown. Simply comparing Gold vs Equities without considering one's investment objectives is a no brainer.

[moby8]

In fact, since the GLD ETF came into existence in November of 2004, making gold ownership so much easier, GLD ETF has out performed the SP500 by 59%. Your readers also have to always be aware that brokers HATE gold ownership because it really hurts their performance. It is also bad for an economy as money in stocks is invested into a productive company whereas a gold coin just sits there under the mattress. This has been a real concern for India which taxes gold very heavily. Indians LOVE the glitter of gold. It's almost like a religion with Indian women.

[antoncretu]

Sorry, but this doesn't seem to be correct:
- Gold annualized return from November 2004 = 7.64%
dqydj.com/...
- S&P 500 annualized return from November 2004 with dividends = 10.75%
dqydj.com/...

[New Low Observer]

@mobymark8

I remember this false narrative of Indians and gold. It was the same story in 2011, when gold was at $1,800, that went along the lines of:

"Gold has a floor in the price because Indians and Chinese have an inherent cultural affinity towards the metal."

By 2015, the price of gold fell to $1,050. So much for old wive's tales.

[Gunne]

Some people really don't understand the monetary function of gold, i suppose.
Of course Indians love gold.
1) Owning gold has been a great insurance against a loss of purchasing power for Indians.
Gold in Rupee up 20427%, more than double the total return of the S&P.
goldprice.org/...
2) It's a cultural thing : gifts for weddings/used in rituals
3) It's a religious thing : In Hinduism gold is seem as sacred.
4) There are still many Indians who don't have bank accounts, and they aren't to keen on trusting their government either. There is still a lot of corruption going on. So they buy some gold instead, they didn't do that bad, did they?
Take it from a guy who spend quite some time over there.

And the only "floor" for the goldprice has been the AISC for miners the last couple of decades.

[moby8]

The author misses one very important point in his analysis. Look at golds performance since the GLD ETF came into being in 2004. Gold had been essentially flat for 20 years simply because to invest in gold required storage, risk of theft and a huge overall hassle in gold ownership. Since 2004 gold beat, or was even with the SP500 8 years. While this is not a case to hold GLD as a permanent hedge, it is a case to hold it for 3 to 5 years during and after a recession or through times when a recession appears imminent.

[Cashflow Curator]

... and/or it could just as easily be a case for an inflating bubble in GLD.

[moby8]

Who Knows?

[Mike Fortunato]

Would you buy gold if it was trading at a price that it traded at 25 years ago? Basically a mean reversion strategy that takes a bet that gold is about to have a few of the "good years" that it tends to have every quarter century...

[G. Blair Bauer]

Gold and silver peak about every 20 years. The last high was 2011;you've got 12 years to go. Buy jewelry or flatware and get some enjoyment out of it.

[shogan]

I suggest investing in productive farmland stock holdings in New Zealand, Australia and Argentine. People need food.

[Mike Fortunato]

Peter Zeihan agrees with you...as do I.

[JWB]

If you KNEW an asset had an expected return of 1.5% with a volatility of 16%, in other words a sharpe ratio of zero basically, how would you play it? Not necessarily gold, but the example fits here. I guess you'd sell calls over and over.

[Cashflow Curator]

How would you play it? You wouldn't touch it with a 10 ft pole, that is how you would play it. LOL

[happyguy]

Gold will have a "curse" spot on it as far as I see. There's an inflation going on as every country (especially Europe) is printing more money or "quantitative easing" as they say. So does China and now US. The FX rates are steady as a result, but all countries keep printing. Yet uncle Sam keeps pressing on stop pedal when it comes to Gold futures. Lots of market manipulation. With Democrats coming to office gold should go close to $2K, but when will it happen? in 6 years?....

[dsteng]

I think gold is a store of value in the case of monetary disaster. I believe America is the only Country that hasn't ended their currency and replaced it with a new currency. If you are holding dollars, not stock, and the dollar was suddenly worthless as the Govt. came out with a new paper currency, how would you feel? I think that is why many hold some amount of gold, whether in stock or in physical form. As long as women like gold jewelry, gold will have value.

[toms57363]

I'm nearing the point of having 0 confidence in the dollar, the market, government etc and just being one of those weirdos who have most of their net worth in physical gold hidden in their basement and calling it a day.

[vesi]

Excellent article, and I hope the author writes more.

At any moment in time the price of gold is a Taylor expansion around its intrinsic value. Mr. Market estimates the higher derivatives of price relative to time as well as some time increment into the future. The price of gold is the intrinsic value plus this speculative component, but Mr. Market offers only the sum as his bid/ask price, and does not tally these separately in his offer. Gold becomes a future on itself.

Some say gold is currency. Well, not now it isn't. Labor is paid in dollars, we buy things in dollars, and we pay taxes in dollars. Gold is priced in dollars. I use dollars from the US perspective, but likewise for euros, etc. Gold has been money, and it could be once again if we went on a gold standard. On a gold standard the higher-order terms go to zero and the intrinsic becomes a true store of value.

Many seem to interpret gold's current price as the intrinsic value. This may be the reason it is difficult to talk with gold bugs. It may also be the reason for gold's poor investment performance when compared to other alternatives. With such a degree of speculative component in the price, an investor could easily overpay.

With the author's mathematical interests and data sources it would be interesting if an article could be written that separates intrinsic value from this speculative component over time. Intrinsic value might be estimated as the ratio between total gold and the fiat money supply. Money supply might be hard to measure because of the role of the velocity-of-money in prices, but economists have their ways. Gold futures prices, and changes in prices of gold mining stocks, might help estimate the higher-order terms.

Gold is a diversifier in a portfolio, as a hedge against some types of calamity. A feasible reason to own gold is if we were at some future time to put the dollar back on a gold standard -- which might have a probability but not a certainty. The gold investor has then (partially) done this in advance at times and prices of his choosing. A deflation where debt is extinguished by default rather than money-printing would be a calamity but would not make gold a good investment.

[New Low Observer]

Another good comparison is the Nasdaq Composite v. Gold since they both were introduced in 1971 within a few months of each other (found here: www.newlowobserver.com/...

[Gunne]

@New Low Observer :
The chart looks like this, since the introduction of the Nasdag in 1971.
fred.stlouisfed.org/...

Surprisingly, gold outperforms the Wilshire 5000, the broadest measure of publicly traded companies in the United States.
fred.stlouisfed.org/...

[antoncretu]

@Gunne When you compare with stocks, you need to add dividends!
1. Gold total annualized return from 1971 = 7.5%
dqydj.com/...
2. S&P 500 total annualized return from 1971 = 10.5%
dqydj.com/...

[antoncretu]

@Gunne Not to speak that comparing from 1971 is NOT accurate, because in 1971 the gold standard ended, and gold was in a ONE-TIME BUBBLE (obviously the gold standard cannot end again since it doesn't exist, right?)
The author's comparison from 1974 is much more accurate, and gold had only 5.3% annualized

[Otter Investment]

I'm long gold/silver/platinum/palladium and miners, but I fully appreciate bear-side analysis.

My main disagreement with the article is that comparing apples with oranges always depends on where you place the start and end points of your time frame (this is true with every single investment vehicle).

I personally am amused by the current sentiment of many investers. We have a POTUS who consistently has a hard time telling the truth, but many seem to take heart to his vague comments about trade negotiations with China. Meanwhile, on the same day, Powell announces that the Fed will be extending the Repo injections into 2020, even though it was previously sold as just a "temporary glitch". Shocking how much the market still allows itself to fall for such Trumpian-style distractionary tactics.

Question: why are so many Central Banks shifting to hoarding gold over USD? China is gradually selling Treasuries and replacing their holdings with Gold. The global numbers are not insignificant. Turkey, for another example, bought about 1,000,000 pounds of gold just two months ago.

Our National politicians are combating each other, and not doing anything meaningful to address the future financial crisis. Indeed, the Feds just rolled back banking regulations this last week. History will not precisely repeat itself, but some trends are just too predictable....money printing machines will get used more and more, banks will make highly risky decisions, world currencies will continue loosing value, and gold will likely hold value due to it being a limited-quantity commodity. My belief is that this will be even more true once China increases its move towards global trading of oil with gold-backed yuan.

[Brickbear]

As an individual investment gold would be my last choice for all the reasons your discuss, but as part of a static portfolio with a good risk/reward, there is no way to replace it. For older investors who must be more protective of their principal, this becomes an important investment criteria.

[Doc22]

I live in Greece. On Tuesday Greece borrowed money with negative interest-0.02% . I think that having gold as insurance is prudent, since 16 trillion dollars of debt, even from countries like Greece 🇬🇷 is with negative interest. That means that something bad is imminent.

[Augustus]

@Doc22
I have not done the real research to detail values for this. However it is pretty impossible to imagine the gains made by holders of earlier issues of Greek govt, bonds. I don't know what the discounts were on various coupons of the bonds during the "Greek Crisis" of a few years ago. Now, after delivering the coupon payments, those must be trading at very high premiums. Has anything improved in the Greek budget?

[Nikejoe]

If you expect the returns from bonds will be similar to the last 40 years, then you maybe hold 50% bonds and 50% stocks. I do not agree...
Gold has no correlation to stocks, that's the diversification. Of course there is less long-term return. But if you hold cash LT the return is also less then 100% in stocks. But how do you handle the wide volatility in stocks?
If you hold 50% in stocks hold 15-20% in gold and you sleep well in all circumstances.

[Gunne]

=>I will not be adding gold as a financial asset even as others extol it as a virtuous "hedge". Over time, that hedge has been costly to portfolio performance.

1) No, it hasn't. Using gold as a hedge actually increases portfolio performance, and reduces volatility/drawdowns, if done properly.
Instead of cherry picking your timeframes (1974), let's use the end of the gold standard, when gold was set free.
www.portfoliovisualizer.com/...

2) You only look at the US stock markets, and gold in USD. Gold is a universal currency and the US population is about 4% of the world population.
Let's look at how Europeans fared, investing in stocks (euro stoxx 50/msci world index TR) since the inception of the EUR, for example.

EU stoxx/MSCI world index TR : up 80-90%
i.imgflip.com/...
source : Onvista

Gold in EUR up 300%
goldprice.org/...

By the way, more than 90% of the world population is now enjoying close to all time highs in gold in local currency, if they have any. The only ones left behind are Americans (seems like the Donald is right on the USD value being too high) and the Swiss (more or less).

www.kitconet.com/...

www.kitconet.com/...
source : Kitco.

pbs.twimg.com/...
source :Dan popescu/goldchartsrus.com

[Gunne]

The portfolivisualizer link doesn't go back to August 1971 (end of gold standard), so i'll have to compare since the beginning of 1972.
www.portfoliovisualizer.com/...
The results stay the same, gold is a proven hedge.

[Investor since ‘73]

To everything there is a season. PMs are INSURANCE for exceptional times, when chaos and incompetence rule, like these. Why not compare the cost of life insurance with the market? I still do hold a few 1oz gold coins I bought for under $100 in 1973 but for the most part I like stocks that pay dividends, like WPM which pays a tiny dividend about equal to a 10 year note. It’s diversified between the metals, the miners and mines and has a business model that is about to really pay off, again.

[gold_seeker]

Exactly. Most people against Gold still believe in the traditional stock market. With Trump and twitter we have seen the stock market behave like a 2 year old spoiled brat with people desperate for anything. It’s a complete disaster and won’t end well. Gold and Gold stocks are the only reasonable investments.

[6228371]

WPM share are Imo too expensive now. PAAS shares though seem like a bargain. PAAS pays a small dividend.

[6228371]

Is PAAS heading for over $100?

seekingalpha.com/...