Buying Gold Is A Good Defensive Investment In Recessionary Times
Posted on: 23 June 2020
In the current volatile investment environment, gold buyers are buying up precious metal to protect their investment portfolio value. Gold has proven its mettle as a store of value for investors during recessions. But with gold prices flirting with all-time highs, is it a good time to sell or buy gold?
A history lesson in how gold has performed during past recessions reveals why its a super defensive asset during recessionary and boom times.
Defensive Versus Cyclical Investing in Volatile Markets
A defensive investment asset is one that holds its value better than other assets in volatile markets. Gold has erected its defensive shield during many recessions. But will its value hold up for gold buyers? Since the last recession (January 2008 to January 2020), the price of gold increased 180 percent to $1,075, for an annualized return of 9 percent. That's why the yellow nugget is considered a store of value.
The price of a cyclical investment, on the other hand, is more sensitive to market fluctuations. During times of economic growth, consumer electronics, automotive, construction, or semiconductor stock will outperform the market. When the economy slows, however, these stocks will underperform other assets as consumers tighten their purse strings. During the same 12-year period, the value of the consumer stock-laden S&P 500 index increased 7.4 percent, or 9.6 percent with dividends reinvested.
A Flight to Safety
So why not invest in the S&P 500 instead of buying gold? Because you are taking more risk for that 0.7 percent higher return in the stock index. Consider the beta of both assets. Beta is a measure of the volatility of an investment asset relative to the volatility of the whole investment market. It measures how much risk you are taking for every $1 of return.
The S&P 500 index, the market benchmark, has a beta of 1. Gold has a beta of zero, the same as that of a treasury bill, the benchmark for a riskless asset.
But what's important is gold does not move in the same direction at the same time as stocks. This relationship can be measured by the correlation between gold and the S&P 500 index. In 2002, 2008, and the current recession, the correlation between the price of gold and the S&P 500 declined.
So if you want to sell your gold nuggets or jewelry, prices have been historically higher during recessionary times. For gold buyers, because gold loses less of its shine than other assets during market downturns, gold provides diversification and a store of value.
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