Winning Gold: Andrew Cole on the effectiveness of bullion as a portfolio diversifier

by | Sep 28, 2016

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With the prospect of negative interest rates looming, Pictet’s Andrew Cole reminds us of the defensive qualities of gold and why maintaining exposure to this precious metal in client portfolios makes good sense in today’s uncertain world. 

Gold holds an important position in investment portfolios these days as a diversifying and hedging asset, and this position has come as a side effect of the global financial crisis.


Pre-crisis, gold was indeed a poor investment, considered too unwieldy to be used as money and incurring storage and insurance costs. But, through repeated bouts of severe market turmoil, concerns about systemic financial crises and rising political risk, there’s now a case for owning gold, led by its shock absorbing properties and hedging abilities against equities and bonds during normal market conditions.

This is an attribute which investors should be prizing. Balancing against unorthodox central bank policies and negative yields, gold’s defensive qualities come into their own.

This ability to mitigate the impact of market upheavals owes much to its distinctive correlation with other asset classes. Most of the time, the precious metal is marginally more correlated with bonds than equities but not particularly correlated with either. But in times of market stress, it becomes more negatively correlated with equities, giving investors useful protection against bouts of risk aversion. Over the past five years, gold, among other major asset classes, has had one of the lowest correlations with global equities according to our propriety risk indicator.


Adding gold to a typical investment portfolio with an initial 60 per cent allocation to equities and 40 per cent to bonds would over the past decade have reduced volatility, lessened peak to trough falls and lowered worst losses in slumping markets. The persistently low correlation with equities would have provided diversification benefits. Thus, a 10 per cent holding in gold (and proportional reduction of equities and bonds) since the start of 2007 would have improved a portfolio’s annual returns and lowered its volatility by half a percentage point, according to our analysis.

Besides being a commodity, gold is a ‘proto-currency’ – it has been used as a unit of exchange throughout history and continues to be made into coins that are held by households around the world. Additionally, the traditional disadvantages of holding gold — storage and insurance costs — evaporate when the alternative is a negative interest rate. With deposit rates turning negative, it becomes increasingly costly to keep money in a bank. Under these circumstances, gold’s lack of rental yield no longer matters.

This unique status means gold is the only commodity we participate in. Commodities may appear to generate a return because of the difference between their spot and futures prices. But this is a financing yield, essentially a return made from extending a loan rather than anything to do with the commodities themselves.


Currently we have 6.6 per cent of our fund in bullion and nearly 2 per cent in gold mining stocks. [1] We’ve built up a position in the miners because they’d become very cheap after suffering a multi-year bear market.

Of course, there are potential risks to holding gold. In extreme circumstances, authorities may try to restrict its use. But for the ordinary spectrum of bad economic outcomes – high and rising rates of inflation central banks find unable to control, market meltdowns and financial crises – gold represents a valuable hedge and portfolio diversifier.



Andrew Cole is an investment manager at Pictet AM’s multi asset fund and with his colleagues Shaniel Ramjee and Percival Stanion they manage nearly £400m – focusing on bonds, property, gold, digital communications and telecoms.


[1] Holdings in the Pictet Sicav II – Dynamic Asset Allocation Fund as at 09.09.2016.


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