Subject line is pretty much my question. Suppose I’m concerned about inflation eroding my purchasing power, and want to protect how many Egg McMuffins I can buy with my best egg. Why would I choose gold over, say, bonds or stocks?
The theory is that gold represents true value, and anything denominated in government currency is … not actual value. It’s nutty of course, but that’s the theory.
As to bonds or stocks, consider this.
If you buy a bond and then inflation takes off to 25% per year, your bond will still be paying just 5% or whatever. You’ll be losing 20% per year if you hold it to maturity. And if you try to sell it, nobody will pay you face for it. They’ll pay some huge discount to face such that the bond’s interest payment in dollars is enough to offset the 25% inflation and still deliver a return. A bond you paid $100 for might only sell for $15 or $20. Because that way its e.g. $5 annual interest payment represents a good inflation-corrected ROI for them on the $15 or $20 they paid to buy your bond. The shame of course is you paid $100 real pre-inflation dollars for it and had to sell it for only 15 or 20 inflation-hobbled baby-sized dollars. So the 15 or 20 represents even less purchasing power than it did when you bought the bond. You get screwed twice.
Stock is sorta similar, but harder to explain. If you own some stock today and then inflation takes off … Unless the price is going up faster than inflation is corroding the value of the currency you’re still losing value. But who is wanting to buy the stock at such a volume over the number of sellers that the price keeps climbing and climbing and climbing ???
(The preview doesn’t show the link, but this is from nasdaq dot com)
The first and most popular use of gold as a source of protection is as a hedge against the decline of a currency, typically the US dollar. When the dollar slips, the yellow metal not only becomes less expensive to hold, but also tends to rise in value.
In simple terms, as inflation goes up, the value of your money goes down. Inflation has been high in recent years, yet the value of gold continues to rise over time, and thus is considered a hedge against rising inflation. Gold’s value may dip from time to time, but the overall trend is up.
People keep using that word “value”. Gotta be real careful with that word. It is not a synonym for “price”.
I am not an Economist. And I will be making up numbers.
In 1678 BCE an ounce of gold would get you 500lbs of rice.
In 2024 an ounce of gold will get you 500lbs of rice.
In 1978, a quarter would get me a Hershey bar
In 2024, a quarter does not get me a Hershey bar.
I think that’s the basic theory. I’m not a gold bug and my nest egg is in a mixture of stocks/bonds
That is indeed the theory, and very well-stated. Thank you,
But the fault in the theory, mostly espoused by wackos, is in their assertion that 500# of rice = 1 oz of gold now, then, and in the future, is actually true. It isn’t and never has been. And certainly is not guaranteed to be so in the future.
A more academic treatment.
https://www.reuters.com/plus/beyond-cpi-gold-as-a-strategic-inflation-hedge
Bottom line is that as a stand alone asset it is not so great as a hedge against inflation. And a diversified strategy that includes gold seems to work well.
Gold’s sensitivity and reliability may be trumped by direct hedges such as Treasury Inflation Protected Securities (TIPS) – directly linked to the CPI – and energy commodities, which are key inputs into the CPI. But gold prospers in countering the cyclicality of such commodities and the relative illiquidity of TIPS.[8]
The details in that article about money supply frankly go over my head. But for my money, literally, the benefit of a modest gold allocation is its lack of march step with other asset classes. If stocks and bonds tank gold may if anything go up, and may provide an ability for buying in. Problem is that I am too lazy to be a disciplined reallocater.
There are eye-opening graphs in this article comparing the outcome of investing in gold vs. S&P 500 stocks, which do not favor putting money into gold - unless you did that starting in 2000, where gold investments fared somewhat better than stocks.
Investing in physical gold generally seems to be inferior to investing in gold-mining companies.
In June of 1980, gold peaked just around $2657 an ounce, adjusted for inflation. It is almost to the same price today. Having been below that the last 44 years. Here’s a chart. Note how weirdly it bounces around. At times changing a lot independent of other economic measures.
It’s a hedge against reliably earning money. It is basically a major gamble. Gambling with you life savings may not be the best idea.
Do you use the same analysis to argue against have any bonds allocation?
That’s the feature not the bug: how poorly correlated it is to other asset classes. It works well as a smallish component in diversified portfolios that are reallocated with some regularity.
Many years ago, I attended a lecture by a professional investment advisor, from a major bank. After a couple hours, one of the attendees asked a question about gold.
The advisor’s answer was simple: “I don’t discuss gold.”
Why?–“Because people who buy gold treat it like a religion, and not like a rational investment.”
Many years ago, my first investment guy explained the concept of commodities as a counterbalance in my portfolio.
So, I have a silo of wheat in my backyard. 
Seriously, I’ve had gold (mining stock) in my portfolio for many years now. The company is one of the top producers of gold and copper, so their stock value is pretty stable, but with significant bumps when the price of gold spikes up. Plus no cost of storage or insecurity about thieves.
Forbes seems to have a similar opinion as the ones given so far in this thread, to wit:
Gold appears to be having a comeback in 2023. In fact, the price of gold increased by 14% from November 2022 through February 2023.
But that leg up followed a relatively weak performance in 2021 and 2022. The consumer price index (CPI), a popular measure of U.S. inflation, gained 4.2% year over year in April 2021, its first annualized gain of more than 4% since 2008. While the average annual U.S. CPI growth was around 6.8% during those years, gold prices eked out an average annual growth rate of only 1% over the same period.
Darren Colananni, wealth management advisor for Centurion Wealth Management, says that gold’s recent weak performance reveals its shortcomings as an inflation hedge.
“Gold prices have actually been trading sideways to down for most of 2021 and 2022 while inflation was at multi-decade highs,” Colananni says.
Some studies have found that gold can be an effective inflation hedge, but only over an extremely long time horizon of more than a century.
Is Gold An Inflation Hedge? – Forbes Advisor
Of course that’s a risk you always take with any bond investment, just comes with the territory. Even if you manage to get a variable-rate bond, you then run the risk of being screwed by a lower-than-market interest rate if inflation doesn’t materialize.
Sort of an aside, but back in my younger days when I was building up my humble tax-sheltered retirement account, one of my preferred financial instruments was the strip bond. This is a bond stripped of all its interest-bearing coupons, and sold at a deep discount below its face value.
This sort of bond tends to be unpopular with conventional investors who want to see a regular return from their bond holdings, and worse, here at the time (and probably still) strip bonds attracted an annual tax liability, because the tax people in their wisdom considered that the bond’s regular increase in value every year as the maturity date got closer amounted to an imputed interest payment, even though you didn’t actually receive it.
But they’re great for tax-sheltered retirement accounts where there’s no tax liability and you’re not looking for regular returns, just the best possible yield over the long term. I liked the fact that no matter what else might happen, the face value was a guaranteed amount on a specific date, and the effective yield was often better than prevailing market rates.
Steve Martin made the same comment back in the 1980’s…“I bought cardboard futures at 4¢ at ton. It’s now 6¢ so on 4 tons I’ve made… Oh, you figure it out. I have a special deal where I keep half of it in my backyard.”
The logic on gold is simple - it’s small, simple to store and doesn’t spoil. There’s only so much, and the total amount is not growing exponentially. (As opposed to say, diamonds or other gems that can now be manufactured) It will (theoretically!!) hold its value. If the economy goes to total crap, like 1929, it is still worth something(?) to others when you want to trade for 500lb of rice.
The downside is, of course, it has an intrinsic value - give or take. It’s not really growing in value, (theoretically again) it’s just keeping up with inflation. It will only increase in value if more people feel the urge to buy it than there is gold available. (Our friend supply and demand). Whereas Apple stocks or Treasury bonds (again, theoretically) pay you extra above and beyond inflation, but people could decide iPhones or the US Government are worse than useless.
Plus, there are always consipiracy theories in the community of those with high skepticism and a belief in conspiracies, that the government is/was/will manipulate the actual Consumer Price Index to avoid saying inflation is too high, and avoid any expenses that come with inflation such as higher Benefit payouts, raising tax brackets, etc.
The same suggestion that gold holds its value also applies to “Land is a good investment, they aren’t making any more of it.” However, land has expenses for holding onto, and what value it gains can be huge or not, a crapshoot.
The thing with any investment, whether gold, land, bonds, or stocks, or Mortgage Backed Securities, is that the rate of return tends to be roughly proportional to the risks that it fails to return.
Here’s a chart that more or less backs up what the Forbes article said. In short, there’s some correlation between gold price and inflation, but only over very long terms like a century. Over shorter periods, the correlations tend to be much weaker or entirely negative, and this is especially true when gold hysteria artificially drives up the price, which appears to currently be the case.
A more practical hedge against inflation would be TIPS (treasury inflation-protected securities) or series I savings bonds, both issued by the US government. In both cases, the total return is adjusted based on inflation (a combination of the principal and coupon interest rate).
I’m not a gold bug, but the idea is that gold can’t be created, so no government can inflate away its purchasing power by simply manufacturing more gold. This is also the idea behind certain cryptocurrencies, they’re designed so that the rate of production is algorithmically predetermined. The rate of production may change over time, but only over a very specific and predetermined curve.
There’s nothing particular about gold in this regard. Could be uranium or authentic Fabergé eggs, anything that’s supply-constrained and hard to fake.
I take no position on whether these are suitable instruments for inflation-hedging, just noting why some people believe that.
So far as I’m aware, rent tends to keep relatively even with or outpace inflation. And, of course, the next President is a property developer so maintaining a healthy and growing rent price is liable to be a key focus.
REITs are likely to be a fairly safe investment if all you want to do is not lose value. But, that said, you may be losing growth.
This of course presumes the government-published CPI is correct. It is entirely possible in a government where civil servants are beholden to the leader and do his bidding, that the CPI numbers can be fudged to the benefit of the government that would have to pay out. Plus, whether the actual calculation of the CPI reflects the real world that may have changed over time.