The relationship between gold prices and stock markets is inverse. More often than not, the gold prices would drop when the stock markets perform well and vice versa. When the stock markets collapse, the demand for gold increases as more and more investors would be looking at safer options.
Gold is considered one of the most secured investment options as the chances of gold losing its entire worth is almost non-existent. Gold prices may fluctuate but will never be collapsing to zero. It is for this very reason that the prices of the yellow metal shoot up at times of uncertainty or economic crisis. This is very obvious as the investors would resort to safer options rather than the ones that are susceptible to several economic and geopolitical factors.
The relationship between gold prices and stock markets is inverse. More often than not, the gold prices would drop when the stock markets perform well and vice versa. When the stock markets collapse, the demand for gold increases as more and more investors would be looking at safer options. This automatically skews up the gold price, and it is evident in the past as gold prices have skyrocketed at times of economic crisis or recession.
The recession in the early 2000s in the developed countries got the gold prices on the rise. Several developments led to the markets in the United States go volatile. Aerial attack on the WTC in New York City, military actions by the US in the middle east, and shifting of the manufacturing processes out of the US are some of the factors that triggered a decline in the stock markets of the developed nations. This had a cascading effect on gold prices as they shot up considerably.
In the year 2001, the average gold price per troy ounce was $271.04. It touched $309.73 and $363.38 by 2002 and 2003, respectively. Furthermore, it gained massively to breach the $600 level in the year 2006. Such was the importance of gold in the early 2000s as several financial challenges plagued the world.
During the 2008 recession, the gold prices shot up significantly. Many major indices around the world had taken a massive hit due to the subprime mortgage crisis. During the 2008 fiscal chaos, the Indian benchmark indices had fallen record levels. In fact, the S&P BSE Sensex had fallen over 50% between January 2008 and February 2009. This triggered a massive rise in gold prices.
The financial chaos which was triggered by the collapse of Lehman Brothers in September 2008 led to gold prices jumping from little over $700 per ounce to touch the level of $1900 an ounce by October 2011. During this period of three years, the equity markets around the world were volatile, and investors were heavily relying on gold to preserve their capital. After 2011, the gold price started declining as the stock markets gained stability.
After a brief period of market stability, the financial ghosts returned in early 2018 with the start of the Sino-American trade war. The United States and China are the two largest economies, and several developing economies around the world are dependent on how well the two countries fare in terms of trade activities. The trade war began with the US imposing a slew of tariffs on the goods imported from China. The counterparts in China retaliated by imposing tariffs on the products imported from the US.
The trade tensions between the two nations escalated to a level where multiple talks failed to yield a favorable result. This caused gold prices to rise in the period between 2018 and 2020. In the year 2017, the average gold price was $1257.12, and it shot up to touch $1392.6 in the year 2019.
Despite the presence of several other assets, investors prefer gold at times of recession as it provides much-needed flexibility and liquidity. If you choose to invest in real estate over gold, then you may find it challenging to sell your holdings when needed. There is a possibility of not finding buyers at all. If you happen to choose debt instruments over gold, then you may not be able to sell your holdings until the lock-in period is completed. Therefore, for the sake of liquidity, gold is the best option at times of economic crisis.
Investing in gold is a good way of diversifying your portfolio. By doing this, you will always have an asset to fall back at times of emergency. As gold offers high liquidity, it helps you meet your financial needs in a short span. It is advisable to allocate about 10-15% of your portfolio towards gold.
by Archit Gupta, Founder, and CEO – ClearTax