Amid crisis, clients reach for the gold

The unfolding global economic crisis, vividly illustrated by the recent record-level stock market volatility, is sparking new debate over the value of gold as part of an investment portfolio. Depending on your outlook, gold could either be a hedge against inflation, a risky bet against the rising U.S. dollar or just something shiny to give investors comfort in troubled times. Historically, gold has been seen as the go-to strategy when the economy looks most bleak, and that is currently the case, according to various calculations of growing demand for gold coins and bullion. "The real extreme gold freaks believe money is essentially going to be worthless, and you have to have gold to have something of value," said Bert Whitehead, president of Cambridge Connection Inc. in Franklin, Mich. Mr. Whitehead, who advises clients on a retainer and flat-fee basis, said that he last saw investors running frantically toward gold during the late 1970s when the price climbed to about $800 an ounce, and inflation was at 16%. "Normally, people turn to gold when there is higher inflation," he said. "Right now, people are looking at it because they're worried about an economic collapse." For individual investors, a large part of the appeal of owning gold in uncertain times boils down to the fact that it can purchased and held in the form of actual coins or bullion. "It always gives investors peace of mind to hold something of value, and this has been the case for centuries," said Tom Lydon, president of Global Trends Investments in Newport Beach, Calif. "In tough times for the stock market, gold prices don't always go up," he said. "But it can be an emotional investment, because it is good-looking, and it's a symbol of wealth."

PRESERVING WEALTH

The appetite for physical possession of gold coins and bullion has been climbing ever since mid-September when the extreme effects of the credit crunch started taking a toll on the stock market, according to John March, a spokesman for Superior Gold Group LLC, a Santa Monica, Calif.-based precious-metals brokerage firm. "Consumer demand is so high right now that physical gold is be-coming extremely hard to get," he said. Mr. March cited a 20% average annual return for gold over the past 10 years and a 12% increase in the price of gold year-to-date through September as proof of the precious metal's value as a portfolio diversifier. Since the stock market's recent downturn, however, gold prices have started to decline as hedge funds and other institutional investors have had to sell their gold futures contracts to raise cash. From Sept. 22 through last Tuesday, the price of gold, as measured by the SPDR Gold Shares exchange traded fund, offered by State Street Global Advisors of Boston, dropped by 7.8%. Gold dropped below $800 at ounce in trading last Thursday, marking a one-month low. The Standard & Poor's 500 stock index declined by 17.3% over the same period. "The purpose of owning gold is not to get rich; it is to preserve wealth," Mr. March said. "Right now, most of the projections are calling for an inflationary recession or depression, and if that's correct, gold will become the engine driving the portfolio." Such projections can make a strong case for gold, which is why Mr. March is advising brokerage clients to have between 30% and 40% of their portfolios allocated to gold and other precious metals. Worry of an inflationary period also inspired Monty Guild, chief investment officer at Los Angeles-based Guild Investment Management Inc., to make a 10% allocation to gold company stocks several months ago. Mr. Guild, who manages nearly $500 million in hedge funds and separate accounts, is holding the remaining 90% of the assets in Treasury bills. "Gold has two functions; it provides stability in a period of crisis, and it is a hedge against inflation," he said. "We felt there would be serious repercussions from the bailout of the banking system that is sowing the seeds for inflation that will occur later."

'ARMAGEDDON SCENARIO'

However, the value of the U.S. dollar — now steadily rising — tends to move inversely to the direction of gold. "For four consecutive years, gold was up, and the dollar was down, but since this summer, the dollar has become the strongest currency in the world, with the exception of the Japanese yen," said Sam Jones, president of All Season Financial Advisers in Denver. "You just can't make the leap that gold is a store of wealth against the stock market," he said. Mr. Jones oversees $115 million in client assets. "If you want a hedge against the stock market, then short the stock market," he said. Because most financial advisers strive to strip the emotion out of investing and long-term asset allocation strategies, an allocation to gold, which doesn't even fit most definitions of an investment, is often difficult to justify. "Some people believe in gold against some sort of Armageddon scenario," said David Hultstrom, president of Financial Architects LLC, a Woodstock, Ga.-based investment management consulting firm. "If we have a worst-case scenario with no functioning economy, gold will probably be relatively useless, as it has little utilitarian value," he said. "The best investment for that situation is probably ammunition." Although some advisers acknowledge that they've recently added small positions in gold "for those clients who can't sleep at night," that strategy doesn't add up for a lot of asset allocation purists, who claim that now is the time to sell it. "If you think we're heading toward all-out nuclear war, then gold is the place to go," said Timothy Parker, president of Hudson Capital Management LLC, a Ridgewood, N.J.-based firm with $15 million under advisement. "Gold doesn't really respond as a hedge against stock market collapses but more as a global security hedge against danger and terrorism," he said. E-mail Jeff Benjamin at jbenjamin@investmentnews.com.