Gold-related exchange traded funds (ETFs) have gained a lot of investor interest since gold has topped $1,000 an ounce. But investors should be on guard when it comes to the price of the metal in coming months.
Long-term outlook on precious metals typically focuses on the low correlation between gold and other asset classes, which has recently been seen as investors sell off equities in favor of precious metals, remarks Geoff Considine, Ph.D., for Advisor Perspectives.
Like most assets, gold goes through periods of both high and low performance. Gold, however, has been maintaining an historic run-up in value and generating unsustainably high returns, Considine says. He suggests taking a small leveraged position in a gold ETF to provide exposure to the upside but also have a floor in the case of a steep plunge in prices. An alternative for those seeking exposure to gold but are concerned with possible declines would be to establish a floor by buying call options.
Gold is beneficial to an investor’s portfolio because of its low correlation to major asset classes. An asset class with low correlations and positive expected returns to a portfolio may result in increased expected returns without higher risk.
Investors may not be investing in gold as a response to inflation fears but as a behavioral bias toward a “safe” store of value. Considine suggests that the run-up in gold is most likely because of performance-chasing. Historical data shows gold is selling at a premium relative to other commodities and inflation-protected bonds.
The case that a run-up in gold prices as a response to risk of inflation is not as eminent because some inflation-trackers have been declining or lagging behind gold. If you’re an investor taking the long-term approach, gold as a diversifier still holds true. Recent highs and implied volatility in gold prices may make gold riskier for the next couple of years.
Whatever the reasons behind gold’s run-up, the trend is clearly up and you can’t fight it. Gold ETFs also vastly simplify investing in this precious metal. If you’re investing in gold, use the 200-day moving average as a guide and have a stop loss in place in the event that this trend reverses itself.
- SPDR Gold Shares (NYSEArca: GLD): up 14.3% year-to-date