Gold is a fascinating metal that forms part of the very select list of noble metals. Gold is both rare, unique and precious, it can withstand time and bad weather, it does not tarnish and has numerous physicochemical properties: it is immutable, does not oxidise, is malleable, and an excellent conductor of electricity and heat, etc. Yet, undoubtedly, its true value lies elsewhere.

Given its properties, it is no surprise that gold is used in the manufacture of many electrical components, in the aerospace sector, dentistry and, of course, jewellery. However, this does not really explain its success.

A multi-faceted commodity

What distinguishes gold from other commodities? Firstly, that it is more than just a commodity. Gold is multi-faceted. Throughout human history, gold has been a symbol, more than just a metal. Before even acquiring a market value, gold made its mark as a sign of light, perfection, spiritual richness and even divinity in many cultures.

The Ancient Egyptians considered it a gift from the heavens, and it accompanied Tutankhamun into the afterlife. For the Ancient Greeks, the Golden Fleece was the subject of a mythic quest by Jason and the Argonauts. When the New World was discovered, the Spanish conquistadors set out in search of El Dorado, to find the mysterious cities of gold. In our region, gold has been highly coveted and often used to enhance the prestige of places of worship and royal palaces. However, with the exception of the famous Getafix in the Asterix comics, the golden sickle used to collect mistletoe was never the preferred tool of druids.

Even today, the symbolism around gold remains extremely important. This is particularly true in the field of sport, with awards such as the Ballon d’Or in football or the gold medals awarded to Olympic champions. Gold occupies such an important position that it is used in many expressions: to strike gold, to be rolling in gold, a golden age, worth its weight in gold, written in letters of gold, etc. It is so paradigmatic that is used as a reference for other valuable resources such as black gold.

The favourite metal of jewellers (around 50% of global demand) and, on an ancillary basis, a commodity, gold is also a financial asset, with around 35% of global demand coming from central banks, international financial institutions and investors. Historically, the gold standard acted as a value reserve, guaranteeing the convertibility of paper money up until the end of the Bretton Woods system in 1976.

While gold is the best-known and oldest safe-haven investment, it may well be the most controversial.

The oldest safe-haven investment

While gold is the best-known and oldest safe-haven investment, it may well be the most controversial. Today, gold remains an instrument of diversification for exchange reserves for many central banks. It signifies power, confidence and solidity, and is a guarantee of stability, but also a strategic means for some countries to reduce their dependence on the US dollar. The International Monetary Fund (IMF) is still one of the major holders of gold worldwide. It is a guarantee of stability for the international financial system and may also be used as loan collateral.

For investors, many continue to regard gold as a safe-haven investment, even if it lost its status as the money standard decades ago. Its supporters claim that gold has a timeless quality, in contrast to paper money, which central banks can print in infinitesimal amounts.

In contrast, its detractors say that gold has no economic function and has become the plaything of speculators. John Maynard Keynes, probably one of the most influential economic theorists, did not hesitate to qualify gold as a barbarous relic, based on the observation that it has no (or little) use, produces nothing and generates no cash flow.

In Tolkien’s universe, the One Ring is more than a simple piece of jewellery since it is endowed with an extraordinary force of evil. In the world of investment, gold is much more than a simple commodity since it is endowed with unusual powers of fascination. Gold does not generate income, has no expiry date, and is characterised by its sentimental value – it is therefore very difficult to value using traditional financial models.

The role of a safe-have asset is not to generate money, but to avoid losing it.

With all due respect to Keynes, gold – probably more so than any other asset – is worth what people are prepared to pay for it. It’s worth reminding ourselves that the role of a safe-have asset is not to generate money, but to avoid losing it. For supporters of the safe-haven theory, gold is not an investment but an all-risk insurance policy for their wealth. It is a form of insurance that is not intended to generate interest or distribute dividends.

A universal asset, divisive and with a fluctuating value

The glitter of gold is subject to the vagaries of financial markets. It may be noble, but its price is not immune to the laws of supply and demand or to market psychology. In the collective unconscious, gold is a tangible asset that provides a reassuring impression of stability. However, the reality is quite different, with quoted prices fluctuating and causing some investors to break out in a cold sweat. Why these swings?

Gold is nothing if not fickle, and its price depends on many factors – money supply, real interest rates, the US dollar price, etc. As it is denominated in US dollar, the gold price is impacted by trends in the dollar price. With negative price correlation – although this is not constant over time – gold offers insurance against exchange rate risk for investors holding assets denominated in US dollar.

Gold is a symbol of wealth and prosperity but is also subject to speculation. Its role as a cushion for stock market indices varies depending on the level of financial stress. In periods of moderate stress, gold is a safe-haven asset whose return is negatively correlated with stock market returns. On the other hand, in periods of extreme stress, the returns of stock markets and gold are generally positively correlated, probably because investors are forced to liquidate some of their gold holdings (since gold is a liquid asset) to cover margin calls and losses on other asset classes.

In periods of moderate stress, gold is a safe-haven asset whose return is negatively correlated with stock market returns. On the other hand, in periods of extreme stress, the returns of stock markets and gold are generally positively correlated.

With upheavals that can be as surprising as they are rapid, gold is a volatile and risky asset. But gold offers specific attributes and interesting characteristics for an investor: limited supply, diversified demand and a whole range of beliefs attached to it. Beliefs that may be, but are not always, correct (protection against inflation, a cushion against volatility, a hedge against uncertainty).

As regards the supply side, gold remains rare. Estimates indicate that if total global production since the start of humanity (a little over 205,000 tonnes of gold) were melted down, we could make a cube of just 22 metres on each side. Despite the desperate attempts of numerous alchemists, a philosopher’s stone has not been found to transform lead into gold. A particle accelerator could do the trick, but producing a couple of grams would cost billions in operating costs. So gold remains a rare resource that does not suffer the ravages of time, is easily tradeable and universally recognised, making it extremely attractive for many.

For all of these reasons and given its low correlation over the long term, holding a small proportion of gold in a portfolio of shares and bonds may reduce volatility and improve the portfolio’s Sharpe ratio (risk-return ratio). But bear in mind that not everyone is a supporter of gold, and that there are some disadvantages attached to it. It does not generate income, is not flexible enough to use as money, and there is a cost associated with its storage and insurance.