New data reveals investors are putting their faith in gold exchange-traded funds (ETFs) as the global economy wrestles with rising inflation.
So, is investing your wealth in the most precious of all metals a wise move in the current climate? Let’s take a look.
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What is a gold exchange-traded fund (ETF)?
Gold ETFs track the price of gold. So, if you invest in a gold ETF, you are effectively putting your faith in the commodity.
If you buy a gold ETF, you invest in gold-backed assets rather than holding the precious metal itself. With this in mind, gold ETFs can provide an easy way of getting exposure to gold without having to buy the physical commodity.
It is for this reason that gold ETFs are often popular with investors looking to diversify their portfolios. The products are also popular with investors who do not have mountains of wealth to buy physical bars of gold.
You can invest in a gold ETF through a normal share dealing account. Alternatively, it can be bought and held in a stocks and shares ISA.
Is investing in gold ETFs a good idea?
According to new data by the World Gold Council, gold-backed ETFs recorded net-inflows of $2.7 billion (£2 billion) last month. This is the highest level seen since May 2021.
This data suggests that investors are rushing to gold-backed ETFs as inflation takes off around the world.
Aa Adam Perlaky, senior analyst at the World Gold Council, explains: “Gold prices built significant momentum throughout January as turbulence rattled across equity markets. Ultimately, that momentum was brought to a halt after the Federal Reserve signalled potential rate hikes near the end of the month.
“Nevertheless, the inflows into gold ETFs – especially among US funds – points toward gold’s value amid market uncertainty and positive investor sentiment.”
In December, it was revealed that inflation was running at 7% in the United States. Meanwhile, the latest data from the UK suggests inflation is running at a slightly lower, but still significant, 5.4%. The UK figure is expected to go up when the UK’s Office for National Statistics releases January figures on 16 February.
As well as highlighting the mind-blowing $2.7 billion figure, the World Gold Council suggests that the recent ‘gold rush’ is the opposite of what has been happening with the stock market. According to the Council, there has been a sharp selloff in global equity markets recently, driven by the US Federal Reserve’s ‘hawkish’ attitude towards further interest rates rises.
The Federal Reserve last hiked its rate in January, while the UK’s Bank of England upped its rate last Thursday. Both central banks are expected to make further interest rate rises this year.
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Why is gold popular during high inflation?
There is no guarantee that gold will perform well during the current high inflation period we find ourselves in. That being said gold has, in the past, been a popular choice among investors fearful of inflation.
One of the biggest plus points of gold is the fact that the precious metal is hard to mine. According to the World Gold Council, it takes a long time for gold explorers to bring new mines into production. Finding new gold deposits is also extremely challenging.
Taking both of the above factors into account, gold is a very difficult precious metal to acquire. As a result, demand is always likely to exceed supply. This is why gold is seen by some as a good hedge against inflation.
Are investors making a mistake by investing in precious metals?
With the obvious advantages of investing in gold, through an ETF or otherwise, it’s not difficult to see why investors may opt for the precious metal in order to hide from the impacts of rising inflation.
While a gold-backed ETF is unlikely to provide extraordinary returns, there is every possibility that it could deliver a higher return than investing in traditional stocks and shares. This may be particularly true if the stock market crashes, or if inflation reaches a level that is considered rampant.
There’s no sure way of knowing whether investing in gold ETFs will protect wealth from the current high inflation environment. As a result, there’s no way to determine whether investors buying gold ETFs are making a mistake.
While we know the precious metal has performed better than some other assets during high inflationary periods in the past, this isn’t always the case. Don’t forget, the UK’s inflation rate was high for the majority of 2021. Despite this, the value of a troy ounce of gold actually fell roughly £50 over the year.
For more on gold’s price fluctuation, see our article that explains why the gold price fell in 2021 despite rising inflation.