Gold uncovered. Is gold a good investment during a recession? This article explains why gold is not as good as it seems during a recession and what other possibilities there are to grow your wealth in times of economic slumps.
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While most investors believe gold is the go-to investment during a period of economic slowdown, there is actually very weak correlation between increasing gold prices and recessions. This argues the case that gold is not a good investment during a recession as it does not diversify a portfolio as it does not hedge against a recession. An example of gold falling during a recession is in 2008. In October 2008, all markets including gold fell incredibly sharply. Furthermore, during the 2001 tech bubble crash, gold hit lows not seen since 1972. This shows that gold may not be the best investment during a recession.
WHY DO PEOPLE STILL INVEST IN GOLD?
Given the evidence above, why is it that investors continue to flood into gold stocks and futures contracts? There are many reasons why:
·Gold is seen as a safe-haven asset. Safe-haven assets are investments that people make when the economy is volatile and unstable.
· Gold is used to diversify an investor’s portfolio of stocks/bonds. Diversification is when investors hold different investments which will have the opposite reaction to a certain economic event. For example, when the economy is growing, stocks perform better than bonds. However, bonds perform better than stocks during times of economic slowdown. By have both stocks and bonds, a portfolio is much better protected when the market becomes unstable and volatile. Hence, diversification is important to investors because it helps decrease the risk of investments, but at the same time, it helps investors meet long term financial targets.
·Gold retains its value. Unlike other assets such as paper currency and coins, gold holds its value over time. This allows investors to hold their wealth and pass it on generation to generation.
·Gold protects from inflation. The price of gold tends to rise as the cost of living rises. Over the past 60 years, gold has boomed during times of high inflation. This is because when an economy which uses fiat currency is experiencing high inflation, its purchasing power falls. This causes investors to buy gold as it retains its value. This increase in demand for gold causes the price of gold to rise.
·The demand for gold is rising while supply is decreasing. Since 2000, the mining of gold has been decreasing while at the same time gold sales from banks fell sharply in 2008. Simultaneously, the demand for gold from investors is rising as commodities are increasingly being seen as hedges against inflation and a good option for diversification. In addition to this, growing wealth in newly emerging economies has increased demand for gold as people seek to hold their wealth in gold. These conditions make it good for those looking to make profits by holding gold as in the near term these conditions will cause the price of gold to rise.
OTHER SAFE HAVEN ASSETS
As stated above safe-haven assets are usually precious metals such as gold, silver and even platinum. However, there are safe-haven currencies, such as the Swiss Franc due to the stability of its financial system. Another example of a safe-haven currency is the US Dollar. This is a safe-haven currency because during times of economic instability investors turn to the US Treasury to buy bonds which, among other factors gives the US Dollar its safe-haven status.
In summary, during a recession, gold’s price is very unpredictable because the past tells us it can move either way during times of economic slowdown. However, the main reason why investors buy gold is to diversify their portfolio and to store their wealth over long periods of time.
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