Will including gold in my portfolio help?

Will adding gold to my portfolio increase returns, reduce risk? How much gold will make a difference? An analysis

/ M. Pattabiraman / 4 Comments

Published: April 26, 2020 at 11:08 am

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Photo of M Pattabiraman, founder, editor and primary author of freefincal.com By M. Pattabiraman   

We look at the effect of including gold in a portfolio of stocks and bonds (long-term gilts) by comparing it with the Ben Graham portfolio (50% stocks + 50% bonds).

Readers may recall that we had just reviewed (1) the 50-50 portfolio – Will Benjamin Graham’s 50% Stocks 50% Bonds strategy work for India? – (2) the permanent portfolio (25% each of stocks, bonds, gold and cash) (3) “international diversification” This is how buying US stocks will affect your portfolio

We shall use the same data set for this study also:

  • Stocks: Sensex TRI from Sep 1996.
  • Gold: Gold price in INR per troy ounce from Sep 1996
  • Long Term Bonds: I-BEX Long Term Gilt Index from Sep 1996.

The XIRR of the Equity + Bonds + Gold portfolio minus XIRR of 50% Equity + 50% Bonds portfolio is plotted below along with the relative volatility (beta). That is, we check the excess return (if any) and the excess risk by replacing some bonds in the portfolio with gold. The portfolio is annually rebalancing.

We shall look at 165 10-year return sequences between Sep 1996 to April 2020 to compute the XIRR of a SIP in the below-mentioned portfolios. Please note that as we rolling over the same return sequences in all portfolios. the shape of the XIRR difference curve would look the same but the values will change.

5% Gold + 50% Equity + 45% Bonds

XIRR (50% Equity + 45% Bonds + 5% Gold) minus XIRR (50% E 50% B) with beta (orange)
XIRR (50% Equity + 45% Bonds + 5% Gold) minus XIRR (50% E 50% B) with beta (orange)

10% Gold + 50% Equity + 40% Bonds

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XIRR (50% Equity + 40% Bonds + 10% Gold) minus XIRR (50% E 50% B) with beta (orange)
XIRR (50% Equity + 40% Bonds + 10% Gold) minus XIRR (50% E 50% B) with beta (orange)

15% Gold + 50% Equity + 35% Bonds

XIRR (50% Equity + 35% Bonds + 15% Gold) minus XIRR (50% E 50% B) with beta (orange)
XIRR (50% Equity + 35% Bonds + 15% Gold) minus XIRR (50% E 50% B) with beta (orange)

20% Gold + 50% Equity + 30% Bonds

XIRR (50% Equity + 30% Bonds + 20% Gold) minus XIRR (50% E 50% B) with beta (orange)
XIRR (50% Equity + 30% Bonds + 20% Gold) minus XIRR (50% E 50% B) with beta (orange)

25% Gold + 50% Equity + 25% Bonds

XIRR (50% Equity + 25% Bonds + 25% Gold) minus XIRR (50% E 50% B) with beta (orange)
XIRR (50% Equity + 25% Bonds + 25% Gold) minus XIRR (50% E 50% B) with beta (orange)

33% Gold + 33% Equity + 33% Bonds

XIRR (1/3rd Equity + 1/3rd Bonds + 1/3rd Gold) minus XIRR (50% E 50% B) with beta (orange)
XIRR (1/3rd Equity + 1/3rd Bonds + 1/3rd Gold) minus XIRR (50% E 50% B) with beta (orange)

Gold has not made a significant difference to the portfolio risk or reward over the last 24 years. In fact, for most of the runs, the return has only gone down when compared with a 50% equity + 50% long term gilts portfolio with marginal decrease or increase in relative volatility.

In summary, the 50-50 portfolio with no gold is superior and the effort associated with adding gold and tolerating its volatility has not been rewarding. Things could change in future but we can only look at past data for portfolio construction.

Investors are better off buying physical gold for family use or Sovereign Gold Bonds if they wish to produce physical gold in future (e.g. for a marriage). There is no need for them to track the price of gold (via gold ETFs or gold funds) in an investment portfolio.

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About the Author Pattabiraman editor freefincalM. Pattabiraman(PhD) is the founder, managing editor and primary author of freefincal. He is an associate professor at the Indian Institute of Technology, Madras. since Aug 2006. Connect with him via Twitter or Linkedin Pattabiraman has co-authored two print-books, You can be rich too with goal-based investing (CNBC TV18) and Gamechanger and seven other free e-books on various topics of money management. He is a patron and co-founder of “Fee-only India” an organisation to promote unbiased, commission-free investment advice. He conducts free money management sessions for corporates and associations on the basis of money management. Previous engagements include World Bank, RBI, BHEL, Asian Paints, Cognizant, Madras Atomic Power Station, Honeywell, Tamil Nadu Investors Association. For speaking engagements write to pattu [at] freefincal [dot] com
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