Is Gold A Good Choice If The U.S. Defaults On Its Debt? (NYSEARCA:GLD) (2024)

Investing Group Leader

Gold (NYSEARCA:GLD) investing is generally most popular - and most rewarding - during periods of economic and/or geopolitical distress. Right now, the gridlocked debt ceiling debate in the United States could serve as a positive catalyst for the gold price. In this article we look at whether or not investing in gold is a good idea right now as well as which gold investment vehicle is ideal for long-term investing.

Is Gold A Good Investment Right Now?

To determine if gold is a good investment right now, we need to answer three pressing questions surrounding the macroeconomic environment right now:

1. Will gold be a good investment choice if the U.S. defaults on its debt?

If the U.S. government defaults on its debt - as it appears at risk of doing at the moment - it would very likely prove to be a bullish catalyst for gold prices for at least two reasons:

• Gold has traditionally been viewed as a safe haven, so whenever major macro disruptions occur, gold prices tend to shoot higher. For example, in the wake of the COVID-19 outbreak and the leadup to and immediate aftermath of the Russian invasion of Ukraine, gold prices shot higher. This is because gold has been a valued store of wealth for thousands of years, so no matter what happens in the world, it is widely accepted that gold will always be valued by humanity. Certainly in the case of a U.S. debt default there would be considerable macroeconomic and even potentially geopolitical uncertainty and upheaval, so gold would be a favorite "flight to safety" destination in such a scenario. As investment advisor and Miser Wealth Partners CEO Derek Miser recently stated:

Gold and other precious metals have traditionally been viewed as safe haven investments during times of economic turmoil. If the debt ceiling is not raised and the government defaults on its debt obligations, investors may turn to gold and other precious metals to protect their wealth.

• The U.S. government's treasury securities (TLT)(SGOV) have long been considered another safe haven store of wealth. This is because the U.S. government is backed by the world's largest economy, the world's most powerful military, and enjoys enormous global influence as the only superpower (though Communist China appears to be rapidly catching up in all three domains), so it is considered the safest bet in the world to be able to meet its financial obligations. As a result, U.S. government debt competes directly with gold in many cases for safe haven investment dollars. Many governments, central banks, and large corporations (such as Warren Buffett's and Charlie Munger's Berkshire Hathaway (BRK.A)(BRK.B)) store vast sums of their financial reserves in U.S. treasuries today. However, if the U.S. government proved to no longer be as safe of a bet as currently thought, gold would be an immense beneficiary by attractive vast inflows of investment demand from many of these same governments, banks, and corporations. In such a scenario, the price of gold would undoubtedly soar higher.

2. Does gold go up in a bad economy?

Another extremely important consideration when assessing gold's attractiveness as an investment in the current environment is how it historically performs during economic downturns. This is particularly pertinent at the moment given that many business leaders, top economists, and leading research institutions currently put the odds of a U.S. recession at very high levels.

For example, The Conference Board recently published research putting the chances of a U.S. recession occurring within the next 12 months at a whopping 99%:

While this may be a bad signal for stocks, it is just the opposite for gold investments. Historically, the worse an economy is doing, the better the gold price performs. This is typically due to two reasons:

• People turn to gold as a safe haven for their money. While stocks suffer from declining corporate earnings and a rising chance of bankruptcies, gold remains unimpacted. It simply sits there as a shiny store of value and arguably the best form of real money the world has ever - and will ever - know.
• The Federal Reserve often cuts interest rates during an economic downturn in order to fight the recession and get people back to work. This reduces the appeal of treasuries and other interest-rate sensitive fixed income investments relative to gold, thereby pushing more safe-haven investments from treasuries and other fixed-income towards gold, pushing up the price of the yellow metal.

3. Is gold a good hedge against inflation?

Last, but not least, with inflation stubbornly remaining elevated after reaching four-decade highs last summer, is gold a good hedge against inflation? While the case can be made that other commodities - such as energy (XLE) - actually outperform gold as an inflation hedge, the historical data makes clear that gold is still an effective inflation hedge:

Is Gold Long-Term Investing Prudent?

To determine if gold long-term investing is prudent, we need to answer two key questions that will determine whether or not buying and holding gold investments is likely to deliver superior risk-adjusted returns:

1. What is the long-term outlook for gold prices?

The long-term outlook for gold prices is very bullish in our view. This is due to four major macro factors at play:

• Inflation will likely remain stubbornly higher for longer due to the enormous costs required to transition to a zero-emission economy, which will drive up costs across the economic value chain. In the meantime, there has been critical underinvestment in hydrocarbon energy production, which will likely keep energy prices elevated during the transition decades towards a more renewables-powered global economy.
• Moreover, inflation will also likely be pushed higher due to the de-globalization trend that is underway with China, Russia, and several other key economic players increasingly moving towards elements of decoupling from the United States, Canada, Europe, Australia, South Korea, and Japan, and vice versa. This will lead to a de-synergizing of the global economy, driving up prices.
• Third, runaway spending and deficits in the United States and most governments across the globe will continue to exert substantial inflationary pressure on economies, while preventing Central Bankers from being able to raise interest rates sufficiently to completely stamp out inflation.
• Last, but not least, increasing challenges to U.S. Dollar supremacy could drive further global corporate, governmental, and Central Bank demand for gold as a reserve replacement for U.S. Dollars.

All of this means that inflation rates will likely exceed interest rates in the United States and in most other economies of the world for the foreseeable future. This will lead to a condition with semi-permanent negative real interest rates, a state that has proven to be consistently bullish for gold prices. Moreover, there will be growing practical demand for gold as a store of wealth as the U.S. Dollar likely continues to decline on the global stage.

2. Is gold a good choice for investment diversification?

Another reason to really like gold as a long-term investment is that it is very useful for portfolio diversification purposes.

For reasons we have already discussed, gold investments often thrive while other investments like stocks struggle. This also shows up when comparing the performance of the gold price with the S&P 500 (SPY). As the chart below clearly illustrates, it is not at all uncommon for gold and the stock market to move in opposite directions:

This extremely weak correlation is evidenced by the 0.03 correlation between gold and the S&P 500 since 2007. As a result, we can conclude that holding gold alongside a diversified portfolio of stocks is likely to reduce overall portfolio volatility and - when combined with an opportunistic capital recycling strategy - can in fact increase total returns.

It also helps that gold has delivered competitive long-term total returns. As the chart above shows, gold has delivered total returns that nearly equal those of the S&P 500 over the long-term and - since 2007 - gold has delivered total returns roughly equivalent to REITs (VNQ). As a result, investors who hold gold in their portfolios can expect that over long periods of time they will enjoy significant diversification benefits without forfeiting much - if anything - in the way of total returns.

Investor Takeaway

With the U.S. government's debt ceiling fight dragging on closer and closer to the early June default deadline, the data increasingly signaling that a recession is likely to hit in the coming quarters, and inflation remaining persistent, gold has a very bullish set up in the near term.

Meanwhile, thanks to numerous bullish macro trends and the substantial diversification it provides alongside stock prices, gold also appears to be attractive as a long-term investment.

As a result, I have a substantial allocation to both gold (GLD) and precious metals miners (GDX) like Barrick Gold (GOLD) in my portfolio.

If you would please click "like", comment below, and "follow" me that would mean a lot as it helps me to continue producing quality content.

Your timing couldn't be more perfect! We have just unveiled our latest top picks, and by joining us now, you can take advantage of these exciting investment opportunities. Moreover, we are about to increase the membership price, so you have a chance to lock in your membership at the current rate.

We are the best-rated stock-picking service on Seeking Alpha with 1,500+ members on board and a perfect 5/5 rating from 150+ reviews:

Click here to learn more!