As the current crisis is testing investment ‘truths’, Parametric Portfolio Associates has claimed that gold’s expected negative correlation to equities is worth interrogating with an institutional lens in these challenging markets.
Raewyn Williams, managing director, research – Parametric, said that one of the fundamental investment ‘truths’ was the degree of correlation between stocks and bonds, whether ‘defensive’ sectors were in fact counter-cyclical and how liquid listed equity and fixed income portfolios really were.
However, the performance of gold through March revealed something surprising as USD gold prices failed to gain value; worse, gold moved in tandem with US equities during the month’s biggest drops and Australia also experienced a surprising story for gold in March relative to large-cap Australian equities.
“On the S&P/ASX 200’s worst day (10% fall), gold in AUD was flat. On the index’s next worst days (dropping over 7%), gold was, respectively, down 1% and close to flat. While the US investor experienced an unwelcome positive correlation with equities through March’s worst trading days, the Australian experience was more of a random correlation,” Williams noted.
According to Parametric’s commodities strategist, Greg Liebl, there were three possible explanations for that.
“First, investors indiscriminately sold liquid assets to fund margin calls or cover losses on other risky positions. March’s major equity sell-off not only put a lid on gold prices, but caused market dislocation and extraordinary spreads in some ‘safe’ fixed income assets,” he said.
Second, the global gold market was generally priced in USD and, as a safe haven currency, USD demand rose during periods of heightened market volatility, with super funds being acutely aware of how ‘riskoff’ investors pushed the USD up to a record high in March.
Third reason was that the global demand for jewelry, almost half of total gold buying, took a huge hit during economic contractions as consumers cut back on discretionary spending.
“Gold’s failure to provide a safe haven through March raises interesting questions about the role it could play in a super fund portfolio in the months ahead. How central banks respond to the pandemic crisis could be critical, having snapped up one-sixth of all gold mined post-GFC and now, incredibly, owning one-fifth of all gold ever mined,” Williams said.
“This could be a problem for the gold market if central banks become net sellers or some large buyers halt their purchases (as Russia recently did); say, to access foreign currency to manage their balance of payments.”
The evidence for super funds from March was that super funds which were looking within (or outside) their portfolios for assets that were truly defensive would probably not find an edge in gold.
“While gold may be an intriguing possibility as a long-term equity-diversifier for some institutional portfolios, it does not seem to be a reliable short-term equity buffer for when markets get choppy,” Williams concluded.