Words by Andrew Naylor, regional CEO APAC (ex China) of the World Gold Council.
As attention focuses on the devastating events in Ukraine, investors are starting to ask about geopolitics’ impact on the performance of gold.
While it is seen as a hedge against risk, geopolitical events are not the main reason investors should have a strategic allocation to gold.
The fundamental roles gold plays in an investment portfolio are its contribution to returns, diversification, liquidity, and its overall impact. Unlike many other assets, gold benefits from diverse sources of demand.
It’s an investment asset (for both consumers and institutions), it’s a reserve asset in the international monetary system, it’s used in jewellery, and it has technological utility.
These areas of demand have different economic and financial drivers – technology, jewellery and consumer investment tend to be more pro-cyclical, whereas institutional investment tends to be counter-cyclical.
Put simply, this means that gold can behave differently to other asset classes.
This is demonstrated through its lack of strong correlations to other asset classes, particularly in downturns. There are market and structural characteristics that play a role, too.
Gold is highly liquid – over $145 billion is traded every day – it’s no one’s liability, carries no credit risk, and is scarce, historically preserving its value over time.
It’s these reasons – liquid nature, diversification potential, ability to generate returns, and overall portfolio impact – that are the foundation of gold’s strategic role as an asset class.
So while being a hedge against risk is one of the key reasons for investing in gold, it’s far from the only reason.
In addition to geopolitical events, inflation, supply chain concerns and further COVID uncertainty have driven interest in gold. Inflation, in particular, seems to be a long-term driver.
As the global economy and financial markets begin the COVID recovery, a chief concern for many investors is the somewhat novel prospect of “high” inflation. This is particularly true in the US, where investors have been used to low levels of inflation for more than three decades.
Many monetary authorities initially felt inflation would be temporary, but that consensus has shifted, with some central banks now acknowledging that inflation is here to stay.
Although the output gap and unemployment remain high, a quick economic recovery has left many areas of supply tight. Commodity prices are reflecting this situation, as are shipping rates and business inventory data.
In addition, the massive increase in global government debt, as well as central bank acceptance – if not promotion – of higher inflation suggest the risks are, on balance, skewed to the upside.
The interest rate outlook is also having an impact, and while the markets expect rate increases and a strong US dollar – a negative for gold price performance – real and nominal rates should remain at historically low levels.
World Gold Council research shows that gold has been an effective inflation hedge and has performed well into central bank hiking cycles. This, coupled with healthy consumer demand (jewellery, bar and coin), means the strategic rationale for gold remains compelling.
In addition to contributing to investment portfolios, it’s important to understand the broader contributions that gold makes towards societal needs.
Responsible sourcing and broader environmental, social and governance (ESG) concerns are of huge importance to investors. The Australian asset management industry is at the forefront, with some estimates indicating that close to 60 per cent of professionally managed assets in Australia have an ESG lens applied to them.
Ensuring our industry operates responsibly and has a realistic plan to reduce emissions in line with the Paris Agreement, has been at the forefront of our minds.
In response, the World Gold Council launched the Responsible Gold Mining Principles (RGMPs) in 2019. These are a set of 51 detailed principles that define responsible gold mining.
We have also published a significant amount of research regarding gold and climate change, including the steps our industry is taking to decarbonise.
We strongly believe gold makes a positive impact on society, including the positive contributions our members make in their countries of operation, including Australia.
This is why we published a report, The Social and Economic Contribution of Gold Mining, setting out the contribution that our members make in terms of employment, investment, and tax contributions.
The report shows that our members contributed $US37.9 billion ($51.5 billion) of gross domestic product (GDP) to the countries in which they operate. More than 200,000 people are employed directly, and 1.2 million are employed in the wider supply chain that our members support.
These are just some of the parameters and it’s clear that, when responsibly produced, gold mining can make a positive contribution to society.
The feature appeared in the April issue of Australian Resources & Investment.