The weakening US dollar and rising geopolitical tensions in recent weeks have seen investors pile into gold, pushing up the price of the precious metal to a record high last month.
Concerns around inflation, the collapse of Japanese stocks and fears that the US economy will fall into recession prompted global markets to tumble earlier this month, with the FTSE 100 index of Britain’s biggest companies suffering its worst day in more than 12 months.
The index fell 2.0% to its lowest since 22 April on August 5, whilst the mid-cap FTSE 250 index dipped to its lowest level in more than three months, before markets rallied towards the end of the week, following the release of strong US retail sales data and unemployment numbers.
Meanwhile the gold price hit a new record high of over $2,531 (equivalent to around £1,927) an ounce, as investors flocked into perceived ‘safe haven’ assets. However, the gold price has softened in recent days, after the latest set of US inflation data matched expectations.
Here, we take a look at why turbulent economic and political times often see a surge in demand for gold, and why the precious metal can make a useful diversifier for investors.
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Why has the gold price risen to a record high?
The weaker U.S. dollar and expectations that the Federal Reserve will cut its benchmark interest rate next month have been the main factors behind the recent surge in the gold price.
Matt Britzman, senior equity analyst at Hargreaves Lansdown, said: “The recent demand boom can be put down to growing expectations that the US Fed is set to cut interest rates in the coming months. Add in central bank buying, demand for portfolio hedges, and global uncertainty; it’s been a recipe for strong demand over the year.
“While a lower dollar helps boost demand for the commodity, the uncertain outcome of ongoing conflicts is also pushing up appetite for the safe haven asset. Ukraine’s incursions into Russia continue, with unknown repercussions, and as negotiations for a ceasefire in the Middle East look set to reach a decisive moment, violence continues to erupt in Gaza and Israel.”
Many investors like the fact that gold is a physical asset, and precious metals of all kinds often prove particularly popular during periods of political and economic instability.
Sheridan Admans, Head of Fund Selection at investment platform TILLIT, said: “Gold and silver can often be good portfolio diversifiers with weak correlations to stocks, bonds, and other commodities. However, gold is considered a better diversifier of the two. Silver’s correlation to industrial demand can see its supply and demand factors change dramatically depending on the market backdrop.
“Historically, gold and silver have provided a reliable hedge against inflation and have performed well during periods of US dollar weakness. These factors, combined with the safe-haven status of precious metals, particularly gold, are key reasons why investors choose to hold them as part of their portfolio.”
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Understanding the risks
If you’re considering investing in gold for the first time, make sure you do plenty of research first, and seek advice from a professional independent financial advisor if you’re not sure whether it’s the right option for you. It’s also important to be aware that investing in gold is not without risk, and that just because prices have risen sharply recently, they can also fall.
Mr Admans said; “Whilst gold and silver can provide an element of protection within the portfolio, they pay no yield and can be highly volatile in terms of price. It is important to remember gold and silver are commodities and their value is intrinsically linked to their scarcity; sharp swings in demand or supply will result in sharp swings in the price.
“It is generally recommended to cap your exposure to precious metals to say, 5% or 10%. This level can provide some reassurance that there is downside protection within your portfolio but is not so significant as to dramatically change the volatility of your portfolio or have disproportionate opportunity costs in terms of the potential income return.”
You can find out more about the importance of diversification in our guide Investing in your 50s and beyond: an introduction and about investing in gold in our article Five facts about investing in gold.
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