2020 has been a rollercoaster for the global stock markets where major indices hit lifetime highs in January/ February, entered in Bear markets by reaching (and for some indices even breaching) 4 year lows in March and again recovering from these lows in April and May. But as majority of us know, there is one commodity which always gives you a positive return in such scenario – Yes, you’ll guessed it right, “GOLD”. It is having its dream Bull Run after years reaching a 7 year high of $1788.8/ ounce in April 2020.
As gold enjoys its Bull Run, there is one hedge fund manager who has been bullish on gold since the last few years – Mr. John Paulson who leads his investment management firm Paulson & Co. If you don’t know him, mentioned below are a few important details of this man:
1. He had a relatively low profile till 2007 on Wall Street, but made ~ US$ 4 billion in his bets on Credit Default Swaps (CDS) during the subprime mortgage crisis. He became a household name after this event.
2. He is known for his “events-driven” investments – i.e. mergers, spin-offs, etc.
3. In 2009-10, he made a fortune again by his successful bets in gold and financial sector. Since 2011, his funds have been giving lackluster returns. No wonder 75 – 80% out of the total AUM of Paulson & Co., is his own money.
4. Though, he is still bullish on gold and his investment in SPDR Gold.
Why would he be so bullish on gold at this time?
Here are some facts and analysis done by us which might interest you as well.
Gold is generally known as a Safe Haven as it has historically maintained its value over a period of time. The main reason why gold has been able to maintain its value all these years is because its production is more or less stagnant over the years. Have a look for yourself:
People invest in gold generally for two reasons:
1. As an inflation hedge
2. As a safe bet against economic events – which we are currently witnessing
Now let’s take a deep dive into which of these reasons are true and consider which one of the above could be the reason for Mr. John Paulson to be so bullish on the yellow metal
Investment in gold as an inflation hedge
Globally, people have always been thinking that investment in actual gold or through ETFs like SPDR Gold Shares offer them inflation hedge along with security of non-negative returns but this is not true. The image below shows statistical data on US inflation rates, returns on Gold and Gold prices at the end of each year (End of year here is considered to be 31st December):
If you see the inflation rates in the US, it has been more or less in the range of 1.2% to 3.2% except for 2009 when the inflation rate was a -0.36%. But if you see the returns on Gold, it tells you a different story. The returns on gold has been more volatile than the inflation rates. Out of the 14 years, Gold has provided positive returns in 10 years and out of these 10 years, yellow metal generated extensive positive returns above the inflation rates. The only off-year was 2008, when the generated returns were marginally above the inflation rate.
I hope this gives you some perspective with regards to the correlation between gold returns and the inflation rate. Though the correlation appears to be low.
There has to be some other reason then, to bet on an asset class with so much conviction.
To find out, let’s move to
Investment in gold as a safe bet against economic events
As seen above, gold is very similar to equity as it has volatile returns. Gold has provided a CAGR of 8.0% from 2006-19 which covers the recession and financial crisis of 2008-09. You must have noticed that during this period of crisis, people preferred investing in gold rather than in equity markets due to the volatility and uncertainty. It can be observed from the below analysis of returns provided by Gold, Dow Jones and S&P500 from the same period:
If you notice the trend, gold gave positive returns for the year 2008 whereas the equity indexes gave negative returns of > 30%. After which, the equity markets became volatile but started providing positive returns from 2009 to 2011. During this period, gold outperformed the wider markets and provided astonishing returns at a CAGR of ~ 21% whereas Dow Jones and S&P both generated ~ 12% CAGR from 2009-11.
After 2011, the equity markets entered a never-seen-before bull run from 2012-19 with negative returns in just two years i.e. 2015 and 2018 (which I believe, were correction before the next bull run). You won’t be surprised to know that yellow metal’s returns were negative in 4 years out of these 8 years.
As you can notice, we are currently experiencing a trend similar to 2008-09 due to Covid-19 outbreak, where gold has provided a Year-to-date return (from Jan-20 to May-20) of ~ 15% whereas Dow Jones and S&P500 have provided returns of ~ -12% and ~ -6% respectively. As economists are expecting recessionary trend to continue at least for FY20 and Japan entering into recession, we might expect the history to repeat itself where the yellow metal can provide stellar returns and outperform the equity indices.
According to me, this is the reason why Mr. Paulson is so bullish on yellow metal and holds a considerable amount of his portfolio in SPDR Gold ETF apart from investments in other companies. He expects returns from Gold to outperform the wider equity markets for the next 1-2 years.
Disclaimer:
I, Jainil Mehta shall take no responsibility for any losses occurring out of investment/trading decisions you make based on the contents of this article.
We are not SEBI registered investment advisors. This article is meant for educational purposes only, please consult your investment advisor before acting upon any information you see here.
We may or may not have open positions, kindly assume that we are biased.
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