It is well-known that the traditional combination of stocks and bonds has been a popular strategy for investors to create a diversified portfolio that seeks to balance risk and return. However, the role of gold in a portfolio has been less discussed. In this article, we will explore the effectiveness of gold in a portfolio, especially when combined with stocks.

The Perception of Gold

Gold has long been viewed as a precious metal and a hedge against inflation. However, it is often seen as a speculative asset with high volatility and little intrinsic value. It is, therefore, not surprising that many investors allocate only a small percentage of their portfolio to gold if any at all. However, our analysis shows that gold has the potential to improve portfolio performance and reduce risk.

The Role of Gold in a Portfolio

The key reason for adding gold to a portfolio is diversification. Gold has a low correlation with stocks and bonds, which means that its returns are not influenced by the performance of other assets.

This is particularly important during market downturns when traditional asset classes may perform poorly. Gold can provide a cushion to the portfolio during these periods, reducing the overall risk.

Furthermore, gold can be effective in reducing the sequence of return risk. This is the risk of poor investment returns during the early years of retirement, which can significantly impact the longevity of the portfolio. By adding gold to a portfolio, investors can mitigate this risk as it tends to perform well during periods of high inflation and economic uncertainty.

Gold can also improve the Sharpe and Sortino ratios of a portfolio. The Sharpe ratio measures the excess return per unit of risk, while the Sortino ratio measures the excess return per unit of downside risk. By adding gold, investors can potentially increase these ratios, indicating a more efficient portfolio.

Combining Gold and Stocks

Now, let us examine the effectiveness of combining gold and stocks in a portfolio. We will compare the returns of a 100% US Large Cap portfolio (portfolio 1), a 100% gold portfolio (portfolio 2), and a 50/50 stocks/gold portfolio (portfolio 3).

Looking at the performance of individual asset classes, both US Large Cap and gold have experienced significant drawdowns and underwater periods.

However, when combined, the portfolio experienced a lower drawdown and underwater period compared to the individual asset classes. For example, during the worst-case scenario of a three-year low roll period, the US Large Cap portfolio lost 16.4%, the gold portfolio lost 15.32%, and the 50/50 portfolio lost only 4.65%.

Moreover, the addition of gold to a portfolio can help mitigate the impact of negative performance by US Large Cap stocks. During the 2007-2009 financial crisis, US Large Cap stocks experienced a drawdown of -50.97%, while the 50/50 portfolio experienced a drawdown of -32.88%. By combining gold and stocks, the portfolio experienced a lower drawdown during this period.

The Magic of Leveraged Stocks and Gold

Finally, let us examine the impact of leveraged stocks and gold. While this strategy may not be suitable for all investors, it is interesting to explore its potential effectiveness. We examined the performance of a leveraged 90/90 equities/gold portfolio over the last five decades.

Our analysis showed that this strategy can significantly increase returns but at the cost of higher volatility and risk.

Conclusion

In conclusion, the addition of gold to a portfolio can significantly improve performance and reduce risk. Gold is uncorrelated with stocks and bonds, making it an effective diversification tool. When combined with stocks, gold can help mitigate the impact of negative

Now is our Asymmetric Portfolio in detail.