Is Gold a Strong Hedge and a Safe Haven Asset?

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Gold plays an important role as a diversifier in investment portfolios due to its unique characteristics. Historically, gold has exhibited a low correlation with other asset classes such as stocks and bonds, making it an effective hedge against market volatility and economic uncertainty. During times of economic downturns or geopolitical tensions, gold often tends to preserve its value or even appreciate, providing a safe haven for investors. Additionally, gold has been perceived as a store of value over centuries, offering protection against inflation and currency devaluation.

Reference [1] delves deeper into examining the role of gold as a hedge or safe haven asset. It defines a weak, strong hedge, or safe haven asset as follows,

A weak hedge is an asset that has negative conditional correlation with another asset or portfolio on average. A strong hedge is an asset that has both negative conditional correlation and positive conditional coskewness with another asset or portfolio on average.

A weak safe haven is an asset that has negative conditional correlation with another asset or portfolio in times of market stress or turmoil. A strong safe haven is an asset that has both negative conditional correlation and positive conditional coskewness with another asset or portfolio in times of market stress or turmoil.

The authors utilize the conditional comoments and coskewness of gold with other assets to examine such properties. They pointed out,

We empirically examine the performance of gold in 24 countries for a sample period spanning over 40 years. Our results indicate that gold acts as a strong hedge in Brazil, India, Indonesia, Italy, Mexico, Russia, South Korea, Thailand, and Turkey and as a safe haven in Brazil, France, India, Indonesia, Italy, Mexico, Russia, South Korea, and Turkey. This finding implies that gold can satisfy both the mean-variance and skewness preferences of investors in these countries…

We examine whether gold can improve overall portfolio performance as a hedge or safe-haven asset. Our new approach allows us to evaluate out-of-sample portfolio performance. We adopt the rolling window method and construct a CCD trading strategy, adjusting the portfolio allocation to gold depending on its property, and add gold to the stock portfolio in the holding period only when we confirm that it serves as a hedge or safe haven from the estimation period. We find that the CCD trading strategy dominates the buy-and-hold strategy that invests only in stock markets. With gold as a hedge or safe-haven asset, our CCD trading strategy generates higher returns, Sharpe ratio, and skewness than the correlation-based trading strategy constructed following the approach in prior studies. Therefore, our conditional comoment-based approach can benefit more from gold, especially when the stock market is in turmoil.

In short, gold acts as a strong hedge and safe haven asset in certain countries. By using conditional comoments to determine the asset weights, we can enhance the risk-adjusted return of a diversified portfolio.

Another interesting finding of the paper is that individualism, trust, market trading volume, and the level of financial market development are four major attributes influencing gold performance across diverse countries. It is the intricate interplay between these cultural characteristics and the state of financial markets that collectively shape gold’s multifaceted role in acting as a hedge and safe haven in various countries.

Let us know what you think in the comments below or in the discussion forum.

References

[1] Lei Ming, Ping Yang, Qianqiu Liu, Is gold a hedge or a safe haven against stock markets? Evidence from conditional comoments, Journal of Empirical Finance, Volume 74, December 2023, 101439

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