Gold prices soared above $1,950 per troy ounce (oz) in early March as the conflict in Ukraine, heightened inflation concerns and slowing economic growth combine to revive demand for the trusted safe haven.

These events have seen a return of inflows for global gold ETFs, with holdings up just over 2% in the first two months of the year (after falling 5% in 2021). At the same time, speculators in the gold futures market more than doubled their net long position (ie positions that will profit if the price of gold rises).

In terms of performance, gold (valued in US dollars) has now outperformed US equities by around 20% year-to-date (data as of March 11), as shown in the chart below.

Gold price in US dollars and S&P 500 price index
YTD Performance (%) through March 11, 2022

Source: The Perth Mint, MarketWatch, World Gold Council

The chart highlights that what we’ve seen so far in 2022 is another example of gold providing portfolio protection when it’s needed most.

Local investors have also benefited from the protective qualities of gold. In Australian dollars, gold’s year-to-date outperformance versus the local stock market is closer to 13%, with gold up nearly 8%.

The slight “underperformance” of the price of Australian gold against its US equivalent has led some to question whether the currency in which you buy gold matters if you decide to include it in your portfolio.

Does the currency in which you buy gold matter?

Over the long term, gold prices in many developed countries have generated relatively similar returns, with the difference between the price of gold in US dollars and the price of gold in other currencies often explained by a combination of inflation and interest rate differentials.

The similarities can be seen in the table below which shows the average annual returns for gold in a range of currencies from the year 2000 to the end of February this year.

Average Annual Returns (%) – Gold in Various Currencies, 2000-2022 YTD

Source: Reuters, Incrementum Monthly Gold Compass – March 2022, data as of end of February

While long-term returns and the role gold can play in a portfolio tend to be similar regardless of the currency we are looking at, there are differences in short-term price movements, volatility and drops.

The following table, relating to the same currencies, highlights these differences.

Best Year, Worst Year, Maximum Drop and Volatility – Gold in Multiple Currencies, 2000-2021

Source: Perth Mint, World Gold Council. Based on calendar year data

Currency effects amplify gold’s protective advantage for Australian investors

When buying gold unhedged to Australian dollars, investors assume an additional source of risk and return. They are not only exposed to fluctuations in the price of gold in US dollars, but also to fluctuations in the AUD/USD exchange rate.

Rather than proving problematic, this additional source of risk and return has historically been beneficial to Australian investors seeking to hedge stock market risk with a gold allocation, as the Australian dollar typically falls against the US dollar when stock markets fall.

Indeed, since the turn of the century, the Australian dollar has fallen against the US dollar 60% of the time the local stock market has seen a monthly decline. The average decline of the Australian dollar in months when the currency fell alongside the stock market was 3.5%.

In the 40% of times the Australian dollar has risen against the US dollar as local stock markets have sold off (such as in 2022 so far), its average rise has been just 2.6%.

Over the whole period, this currency effect accounted for nearly 1.2% in terms of the enhanced portfolio protection that Australian investors would have received during the months when stocks fell, assuming they held a unhedged gold position to Australian dollars.

The price of gold fluctuates as Australian stocks fall, 2000 to 2021

Source: The Perth Mint, World Gold Council, RBA, MarketWatch

Home bias is a factor

Most Australians have a home bias when it comes to their portfolio and total asset pool, a fact highlighted in a 2019 article published by Vanguard stating:The level of preference for domestic stocks in Australian portfolios is among the highest in the world.”

This is only natural, given that the greatest asset most of us own, the family home, is priced in Australian dollars. Additionally, people earn most, if not all, of their income in local dollars, and the same goes for the cash and term deposits they hold.

Finally, when it comes to the equity market and Australian investors in particular, there are understandable reasons why investors prefer to be “overweight” the ASX (hello postage credits), which reinforces the home bias.

Given this reality, the logic of holding gold unhedged to Australian dollars is arguably even more compelling.

If the Australian dollar rises, most of the assets you own will benefit from that currency appreciation, even if the unhedged gold position you hold underperforms a hedged equivalent.

But if the Aussie dollar weakens, the unhedged gold position will provide additional protection, not just within a portfolio of financial assets, but also across the broader spectrum of real estate, cash and pensions that most Australians seek to develop and protect.

Jordan Eliseo is Head of Listed Products and Investment Research at The Perth Mint, a sponsor of Firstlinks. The information in this article is general information only and should not be taken as constituting professional advice from the Perth Mint. You should consider seeking independent financial advice to verify how the information in this article relates to your particular circumstances.

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