Gold is respected throughout the world for its value and rich history, which has been recognized by cultures for thousands of years. Coins containing gold appeared around 650 B.C., and the first pure gold coins were struck during the reign of King Croesus of Lydia about 100 years later.
Throughout the centuries, people have continued to hold gold for various reasons. Societies, and now economies, have placed value on gold, thus perpetuating its worth. It is the metal we fall back on when other forms of currency don’t work, which means it always has some value as insurance against tough times. Below are eight practical reasons to think about owning some gold.
- Throughout history, gold has been seen as a special and valuable commodity.
- Today, owning gold can act as a hedge against inflation and deflation alike, as well as a good portfolio diversifier.
- As a global store of value, gold can also provide financial cover during geopolitical and macroeconomic uncertainty.
A History of Holding Its Value
Unlike paper currency, coins, or other assets, gold has maintained its value throughout the ages. People see gold as a way to pass on and preserve their wealth from one generation to the next. Since ancient times, people have valued the unique properties of the precious metal.
Gold doesn’t corrode and can be melted over a common flame, making it easy to work with and stamp as a coin. Moreover, gold has a unique and beautiful color, unlike other elements. The atoms in gold are heavier, and the electrons move faster, creating absorption of some light—a process that took Einstein’s theory of relativity to figure out.
Weakness of the U.S. Dollar
Although the U.S. dollar is one of the world’s most important reserve currencies, when the value of the dollar falls against other currencies, as it did between 1998 and 2008, this often prompts people to flock to the security of gold, which raises gold prices. The price of gold nearly tripled between 1998 and 2008, reaching the $1,000-an-ounce milestone in early 2008 and nearly doubling between 2008 and 2012, rising above the $2,000 mark. The decline in the U.S. dollar then occurred for a number of reasons, including the country’s large budget and trade deficits and a large increase in the money supply.
Gold has historically been an excellent hedge against inflation, because its price tends to rise when the cost of living increases. Over the past 50 years, investors have seen gold prices soar and the stock market plunge during high-inflation years. This is because when fiat currency loses its purchasing power to inflation, gold tends to be priced in those currency units and thus tends to rise along with everything else. Moreover, gold is seen as a good store of value, so people may be encouraged to buy gold when they believe that their local currency is losing value.
Although inflation soared in 2022, gold prices actually declined for most of the year, driven in part by the strength of the U.S. dollar against other currencies. However, with inflation remaining at persistently high levels alongside concerns about a potential recession, gold prices ticked higher in the final months of 2022 and early in 2023.
Deflation is defined as a period in which prices decrease, when business activity slows and the economy is burdened by excessive debt, which has not been seen globally since the Great Depression of the 1930s (although a small degree of deflation occurred following the 2008 financial crisis in some parts of the world). During the Depression, the relative purchasing power of gold soared while other prices dropped sharply. This is because people chose to hoard cash, and the safest place to hold cash at the time was in gold and gold coins.
Gold retains its value not only in times of financial uncertainty, but also in times of geopolitical uncertainty. It is often called the “crisis commodity” because people flee to its relative safety when world tensions rise. During such times, gold often outperforms other investments. Its price often rises the most when confidence in governments is low.
Much of the supply of gold in the market since the 1990s has come from sales of gold bullion from the vaults of global central banks. This selling by global central banks slowed greatly in 2008. At the same time, production of new gold from mines had been declining since 2000. According to BullionVault.com, annual gold-mining output fell to 2,444 metric tons in 2007 from 2,573 metric tons in 2000. Since then, gold production has posted a decade of gains, peaking at 3,300 metric tons in 2018 and 2019 before dropping to 3,000 metric tons in 2021.
The recent decline in production suggests the potential for renewed pressure on global gold supplies. It can take from five to 10 years to bring a new mine into production. As a general rule, reduction in the supply of gold increases gold prices.
In previous years, increased wealth of emerging market economies boosted demand for gold. In many of these countries, gold is an integral part of the culture. In China, where gold bars are a traditional form of saving, the demand for gold has remained steadfast. India is the second-largest gold-consuming nation in the world; it has many uses there, including jewelry. As such, the Indian wedding season in October is traditionally the time of the year that fuels the highest global demand for gold.
Demand for gold also has grown among investors. Many are beginning to see commodities, particularly gold, as an investment class into which funds should be allocated. In fact, the SPDR Gold Trust (GLD) has become one of the largest and most frequently traded exchange-traded funds (ETFs) in the U.S.
The key to diversification is finding investments that are not closely correlated to one another; gold has historically had a negative correlation to stocks and other financial instruments. Recent history bears this out:
- The late 1970s were great for gold but terrible for stocks.
- The 1980s and 1990s were excellent for stocks but horrible for gold.
- In 2008, stocks dropped substantially as consumers migrated to gold.
Properly diversified investors combine gold with stocks and bonds in a portfolio to reduce the overall volatility and risk.
Why Should I Invest in Gold?
There are many reasons to consider adding gold holdings to your investment portfolio. The precious metal has a history of maintaining its value, making gold a useful hedge against inflation. Gold prices tend to increase when the U.S. dollar is underperforming or during times of economic and political uncertainty. Finally, gold can provide an important level of diversification to your portfolio, as gold prices have historically shown a negative correlation with other asset classes.
What Determines the Price of Gold?
Gold prices can be volatile in the short term, but the metal has maintained its value over the long term. In general, movements in the price of gold depend on supply, demand, and investor behavior. Because the metal is often used to hedge against inflation, the pace of inflation—and market expectations for future inflation levels—can have an impact on gold prices. In addition, deteriorating economic conditions may bolster gold prices because the metal is seen as a relatively safe investment in difficult times.
How Can I Invest in Gold?
There are many vehicles for adding investment exposure to gold. It is possible to own the physical metal in forms such as bullion, coins, or jewelry, although storing and insuring physical gold assets can be costly. Other possibilities include investing in a gold ETF or buying shares in mining companies that engage in the extraction and production of the precious metal.
Gold should be an important part of a diversified investment portfolio because its price increases in response to events that cause the value of paper investments, such as stocks and bonds, to decline. Although the price of gold can be volatile in the short term, it always has maintained its value over the long term. Through the years, gold has served as a hedge against inflation and the erosion of major currencies, and thus is an investment well worth considering.