Gold: Does It Belong In Your Portfolio?

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Depending on who ask, gold is either the only form of real money, or a barbarous relic with no place in modern society.

Gold is valuable because of its perception as a store of value.  Gold is more volatile than the standard store of value today, the US dollar.

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While gold is more volatile, it can't be printed at the whim of government either.  This means gold (for all practical purposes) is not subject to inflation the way paper currency is.

Gold has actually performed well since the US abandoned the gold standard in 1971.

  • CAGR since 1971:  7.9%
  • Inflation Adjusted CAGR:  3.8%

Over the time period above, gold has actually outperformed the S&P 500, assuming dividends were reinvested.  The S&P 500's annualized returns over the same time period are shown below:

  • CAGR since 1971:  7.3%
  • Inflation Adjusted:  3.2%

Should we all rush out and buy gold?  That may not be wise...  The returns above don't tell the whole story.

The price of gold skyrocketed from the 1970's to the early 1980's.  It then stagnated (and did worse adjusting for inflation) from the early 80's to the early 2000's; a 20+ year period with little to no returns.  The image below shows gold's stagnation.

Gold's returns have historically come in relatively short 'bursts', followed by long periods of inactivity.

This is the weakness of gold relative to dividend growth stocks.  Dividend growth stocks derive their value from their dividend payments - which in turn come from the underlying business.  As the business grows, shareholders get more dividends, and the value increases.

Gold doesn't pay dividends.  A gold coin is never going to duplicate itself.  A dividend growth stock growing at 7% a year while double itself about every decade.

From a total return perspective and an income generation perspective, dividend growth stocks are superior to gold.

But should gold be in your portfolio?  I believe the answer to that question is yes, but only if you are in or near retirement and will have to sell off portions of your portfolio rather than live on the dividend income alone.

If you are living off the dividend income of your portfolio and don't need to sell holdings, or if you are still a long way from retirement and won't be selling any holdings anytime soon (or hopefully, ever), it makes more sense to invest in high quality dividend growth stocks trading at fair or better prices for their superior total return potential and income generation.

If, on the other hand, you are actively selling off portions of your portfolio, gold can make a powerful hedge that reduces portfolio volatility.  Gold is one of the only asset classes that has a near 0 correlation with both the stock market and long-term treasury bonds.

Reducing volatility when you are selling off portions of your portfolio is important because it means you can minimize the painful effects of selling during recessions.  If the stock market is down big, your gold holdings probably won't be.

The idea of combining the 3 dominant asset classes that have little to no correlation with each other is explored in Harry Brown's Permanent Portfolio.  You can see how a modified Permanent Portfolio that leverages dividend growth stock has performed here.

In summary, does gold belong in your portfolio?  Yes and no.

Yes, if you are going to be slowly liquidating your portfolio in return.

No, if you are seeking to maximize total returns and plan on living off the dividend income of your portfolio.

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Ben Reynolds

Sure Dividend

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