Political turmoil in the U.S. and Europe has caused plenty of consternation in the equity markets. One surprising result of the increased attention to geopolitical risk, however, has been the relatively muted response in gold.
Gold – and to a lesser extent gold miners and silver – has historically displayed a strong negative correlation with the rest of the market. On some of the worst days in 2008 and during the Greek Crisis in the eurozone, virtually the only S&P 500 companies in the green were the gold miners.
This negative correlation between gold and the rest of the market was extremely valuable for investors because it enabled them to easily hedge their portfolios without having to take on short positions. The correlation coefficient between the gold miners and the broader stock market over the last 5 years is -0.68. When markets go down, gold and the miners go up.
But if chaos is good for safe haven assets like gold, why is gold still nowhere near the highs of a few years ago?
I think there is something else, not yet widely discussed, happening to gold. Some analysts today espouse the view that gold is no longer a safe haven asset, holding instead that gold has become securitized and now deserves to be treated like a common ETF asset rather than a separate store of value.
But if this were the case, what are people using as a safe haven asset instead? Well, I'll get to that in a minute, but first let's talk about the recent performance of gold and the miners.
In the last 6-12 months, gold and miners have seen sideways performance – an abysmal return compared to equities. Part of this is because the stock market is up, but it is also worth noting that even on down days, miners and gold itself have frequently been down, or at best neutral. Since August, for example, Newmont Mining is off 20%, and it hasn't seen any substantial rally even with the increased uncertainty surrounding geopolitical events around the globe. The correlation coefficient between gold and the markets has come down from around -0.7 to around -0.4 in the last month or so. So what is happening to gold? Is the price just going to keep chopping sideways due to the metal falling out of favor as hedge funds and other investors bailout and return to equities or fixed income?
In theory, if inflation rises as the economy recovers, then gold should also start to recover. However, while the long run value of gold is probably fine, the metal may have lost some of its value as a safe haven because of a new alternative safe haven currency: Bitcoin.
Before we go any further, let me state clearly and for the record, that I am not advocating Bitcoin as an investment – see last week’s column. But I do think Bitcoin is drawing some traditional holders of gold and thus lowering the price of gold.
Bitcoin has been in the news a lot lately as their usage seems to be on the upswing. The U.S. government has begun issuing regulations surrounding the trade in Bitcoin, and it recently rejected a Bitcoin ETF. With the increase in this type of stories, it shouldn't be a surprise that Bitcoin have seen greater price volatility. What is noteworthy is that Bitcoin seem to have usurped at least some of gold's status as a safe haven asset in the current political climate.
It’s been a rough year for the world. Brexit in the UK, legislative chaos in the US, North Korean missile tests, and Chinese belligerence should all have investors on edge. Historically, these kinds of concerns would have had investors headed for the safety of gold. But investors who previously speculated on gold now may have turned to Bitcoin – an instrument whose price has leapt higher in the last year.
There is no conclusive evidence that Bitcoin prices are responding to political distress, and there certainly isn't enough data to say with conviction that Bitcoin has become even a partial substitute for the massive market in gold. To prove either of these things, we would need substantially more data in order to run a battery of statistical tests.
But it's a plausible hypothesis. If true, it would be a headwind for the metal and its miners going forward. And it would be a major change from the past, with enormous ramifications for markets and monetary policy.