by Frank Holmes, CIO, CEO, U.S. Global Investors
Hungary isnāt known today as one of the worldās top gold producing countries. There was a time, though, when it accounted for around three-quarters of Europeās entire output of the yellow metal, if you can believe it. According to historian Peter Sugarās A History of Hungary, the central European country was a āveritable El Doradoā in the 14th century, and its gold pieces circulated widely across the entire continent, competing with those minted in Italy and England.
It was this rich mining heritage that Hungaryās central bank evoked when it announced last week its decision to increase gold holdings tenfold, from 3.1 metric tons to 31.5 tons, taking goldās share of total reserves to 4.4 percent. (Gold accounts for 73.5 percent of U.S. reserves, by comparison, the most of any country.) Hungarian central bank governor Gyorgy Matolcsy described the move as one of āeconomic and national strategic importance,ā adding that the extra gold made the countryās reserves āsaferā and āreduced risk.ā This is the first time since 1986 that Hungary has increased its gold holdings.
The country isnāt alone in its mission to diversify. This month we also learned that Poland became the first European Union (EU) member to increase its gold reserves in two decades. The Eastern European country added as much as 9 metric tons of hard assets between July and August of this year. Central banks in Russia, Turkey and Kazakhstan have also kept up their gold buying, representing close to 90 percent of the activity weāve seen this year.
Meanwhile, the EU has continued to print paper money.
A Good Store of Value
So why should banksāor investors, for that matterābe interested in boosting their gold holdings? One reason is timing. Until recently, gold prices have been relatively affordable, trading at 52-week lows of around $1,180 an ounce in mid-August and at the end of September. Central banksā investment was wisely made. From those lows, gold is now up more than 4 percent on stock volatility.
Check out the chart below. I think itās fascinating to see the relationship between dramatic moves in the stock market and peopleās interest in gold. When stocks sold off a couple of weeks ago, Google searches for āgold priceā jumped to their highest in at least a month. This shows, I believe, that people recognize gold as a good store of value when market volatility reemerges.
Gold Has Helped Improve a Portfolioās Risk-Adjusted Returns
Returning to what Hungarian central bank governor Matolcsy said about risk reduction, a certain amount of gold has been shown to improve a portfolioās Sharpe ratio, according to the World Gold Councilās (WGC) most recent Gold Investor. The Sharpe ratio, in case youāre unaware, measures a portfolioās risk-adjusted returns relative to its peers, based on standard deviation. The higher the ratio is over its peers, the better the risk-adjusted returns.
Analysts at New Frontier Advisors found that an institutional portfolio with a 6 percent weighting in gold had a higher Sharpe ratio than one without any gold exposure. This means that volatility was reduced without hurting returns.
Although analysts were looking at Chinese portfolios in particular, the WGCās Fred Yang believes these findings can just as easily be applied to portfolios that are invested in U.S.-, European- or U.K.-listed assets. The āresearch indicates,ā Yang says, āthat most well-balanced portfolios would benefit from a modest allocation to gold.ā
Iāve often advocated for a 10 percent Golden Ruleāwith 5 percent in bullion, the other 5 percent in gold stocksāand so New Frontierās research is illuminating. It also helps explain Hungary and Polandās actions, as well as those of other net purchasers of gold.
Holding Firm Against Rising Treasury Yields
Iāve shown many times in the past that the price of gold is inversely related with real rates. The yellow metal has especially struggled when Treasury yields have outpaced inflation.
The two-year Treasury yield, for instance, is just under 3 percent today, a more-than-10-year high. Because consumer prices are rising at 2.3 percent year-over-year, according to the latest report from the Labor Department, the two-year has a positive real yieldāand this has historically weighed on gold.
You would think, then, that its price would be much lower than it is. Iām impressed with how well itās held up.
Get more of my thoughts on goldās performance by watching the latest Frank Talk Live! View it by clicking here!
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Standard deviation is a measure of the dispersion of a set of data from its mean. The more spread apart the data, the higher the deviation. Standard deviation is also known as historical volatility.
The S&P 500 Index is a widely recognized capitalization-weighted index of 500 common stock prices in U.S. companies.
Diversification does not protect an investor from market risks and does not assure a profit.
This post was originally published at Frank Talk.
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