gold market - investment & analysis


What Drives The Price of Gold? Part 2: Gold as an Inflation Hedge, Safe-Haven and Portfolio Diversifier

August 5, 2015, 6:29 PM Arkadiusz Sieroń , PhD

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In the last edition of the Market Overview we analyzed the nature of gold and defined it as a global monetary asset rather than a commodity. Because of its nature, neither mining production nor industrial demand nor consumer demand nor central banks’ demand drives the gold price. In reality the casual relationship takes place in the opposite direction: the gold price affects these categories of demand. We concluded that the investment demand drives the gold prices, because only professional investors (not consumers) provoke a stable, sustainable rise (or decline) in the gold price. This time we will focus on the investment demand and its determinants.

We begin by providing gold investment demand guide 101, because there are a lot of misconceptions about investing in gold. We explain for example why the analysis of the gold market requires the use of ceteris paribus clause, and why there is no single Holy Grail explaining the price of gold. Then, we analyze the three most important features assigned to gold: inflation-hedge, safe-haven and portfolio diversifier. We show that gold is not an inflation-hedge, at least regarding the short-run and times of low inflation rate. Gold is rather a safe-haven, which protects investors during crises, but not necessarily in normal times of high confidence in the fundamentals of the economy. We argue that the yellow metal can be considered as a form of insurance against systemic risks resulting from the current monetary system based on the fiat U.S. dollar. Finally, we show that because gold is a safe-haven it is also a good portfolio diversifier. We explain what does this mean, why is gold has this quality, and how much of wealth investors should allocate into the yellow metal.

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