Investing in Gold as a Hedge against Inflation
A diversified retirement portfolio should hold assets that can perform well in all types of market environments. With global growth likely to return in the near future, a mix of assets that included precious metals will continue to perform even if stock and bonds decline in value or remain stagnant over a period of time. Precious metals generally perform well when economies are beginning to gain economic traction and price pressures begin to take their toll on consumers. Investments in precious metals can come in many forms, but the easiest way to gain exposure to gold prices is to purchase physical gold.
Inflation and the Federal Reserve
The Federal Reserve of the United States is a central bank that has a mandate to promote steady growth and target sustainable inflation. Inflation is generally defined as the increase in prices of a basket of goods and services. The Federals Reserve uses the Personal Consumption Expenditures report released by the Commerce Department on a monthly basis as their favored gauge for inflation.
As the Federal Reserve attempts to increase growth, they have also discussed the need to increase asset prices in an effort to ward off deflation. The latest Headline Personal Consumption Expenditure (PC) price index increased nearly 0.9% year over year according to the Commerce Department. The increase was slightly higher than the prior month’s increase. The Core PCE index increased 1.1%, which is well below the Fed’s target inflation expectations of 2%. Currently the leaders of the Federal Reserve have stated that they plan on keeping interest rates low for an extended period until unemployment declines below 6.5% and inflation increases above 2%.
The most popular gauge of inflation for most counties including the United States is the consumer price index (CPI). This index measures inflation on the consumer level, and reflects the prices paid for a basket of goods and services. The consumer price index in the United States is reported by the Labor Department.
The developed world, which includes the US, Canada, Western Europe, Australia and Japan are facing historically low inflation levels, but many countries in the emerging market world are faced with fast growing inflation. Argentina, which is facing unstable market conditions, is facing 25% inflation which has eroded the confidence in their currency.
With the Fed targeting increases in inflation and the Emerging world experiencing instability, investors need to own a portion of their portfolio that will outperform during periods when prices are likely to rise. When prices rise, bonds under perform, and the increases in bond yields erode the value of equity markets. The assets that perform well during rising inflationary periods are precious metals, and the easiest to purchase is gold. Gold prices rise during periods of inflation because the value of gold is not eroded by higher prices for other goods and services. In fact gold is considered one of the best hedges against rising inflation.
Types of Gold Purchases
There are a number of ways to add gold to your portfolio. Some investors will use gold stocks, but most stocks represent the value of gold miners and not the value of gold itself. Gold futures are another way to add gold to a portfolio, but in this case the investor needs to purchase and continue to role the position as futures contracts generally expire every month. There are also gold ETF’s which hold physical gold and futures contracts, but investors who purchase these instruments experience the credit risk of the company that manages the exchange traded fund.
Investors who are interested in purchasing physical gold can purchase gold bullion in bar form or gold coins. Regardless of how an investor purchases gold, owning gold that is 99.99% (4 9’s gold) is import. This nearly pure gold is the most commoditized type of gold and will follow the spot price of gold listed by the London Inter-bank rate, and will not experience a slippage as the spread between purchase gold and a lower quality of gold increases. Gold can be held at home or in a bank vault. For those who are interested in purchases large quantities of gold they can purchase large blocks that are held in co-mingled accounts by large banks.
Owning physical gold in your retirement account allows an investor to diversify their portfolio and own an asset that will perform well in a rising inflationary environment.