Gold Still a Great Performer and Portfolio Diversifier

by Inya Ivkovic, MA

Typically, investing wisdom advises that seasonal effects for gold kick in from August to January. But here is the case disproving the impact of seasonality, or at least the strength of its effect, and supporting gold’s strength regardless of seasonality, not because of it.

According to the World Gold Council, investor appetite for gold is still very strong, judging by record funds going towards gold exchange traded funds (ETFs) alone, increasing investment in that market segment by a whopping 300%. Furthermore, numbers for the fourth quarter of 2008 were just released, whereby investors bought a record 469 tons of gold through various investment vehicles, including ETFs, compared to 145 tons bought the previous quarter. For all of 2008, investors bought 1,658 tons, worth approximately $48.6 billion.

What is driving investors to gold? Heightened risk aversion, growing uncertainty about inflation rearing its ugly head once the Great Recession unravels, and the continued search for effective vehicles with which to diversify investment portfolios.

Having in mind the current broader economic backdrop, there are two distinctive views on the direction of consumer prices. One view sees inflation as a consequence of unprecedented financial stimuli flooding global financial systems with public spending. The other view argues that deflation is a more likely prospect, considering deteriorating consumer confidence and non-existent spending. Regardless of which school of thought you may subscribe to, both scenarios may have a positive impact on gold.

The reason that gold is a viable investment, regardless of seasonality effects and regardless of whether the economy is going through a crisis or not, is that the balance between the demand and supply of gold does not necessarily correlate with price fluctuations of other financial assets. In other words, regardless of where we are in the economic cycle, gold is an effective portfolio diversifier.

One more reason why seasonality has become a lesser factor impacting gold prices is that gold is not only an anti-inflationary tool. Case in point: gold fell from the price of $800.00 per ounce in the 1980s to $250.00 just few years into the 21st century, all the while inflation was present to some extent. The reality is that gold performs the best during times of extreme economic stress, such as deflation, stagflation, hyperinflation and unrelenting credit pressures.

Currently, we are going through a period of extreme credit pressures and economic uncertainty. Furthermore, the flight to the safety of the Japanese Yen and U.S. dollar is over. These days, almost every country around the world is simultaneously trying to debase its currency. In that context, gold should be performing well. And it is, seasonality notwithstanding.