Kanish Chugh

Precious metals prices have risen by around 10% in the past three months, as investors turn to alternative assets in the face of ongoing concern about a re-emergence of high inflation in the post-COVID economic environment.

Alternatives are also being sought as a source of uncorrelated returns to complement low-yielding fixed income and expensive equities.

ETF Securities Head of Distribution Kanish Chugh says gold and other precious metals have a proven track record as inflation hedges and appear to be demonstrating that characteristic now.

Inflation concerns have hung over markets for most of this year. In the latest development, in mid-June US Federal Reserve Chairman Jerome Powell said inflation had come in ahead of expectations and could end up higher than the Fed’s current forecast of 3.4% for 2021, which up from a forecast of 2.4% three months ago. Powell also said the Fed expects to start raising interesting rates next year, with two increases by 2023.

Around the same time, Reserve Bank of Australia Governor Philip Lowe said he expects the June quarter consumer price index will show a spike in inflation to 3.5% due to the unwinding of some pandemic-related price reductions. But beyond that point, inflation pressure will be subdued.

Chugh notes: “Among the alternatives to fixed income and equities on offer – commodities, hedge funds, private equity, direct property and collectibles – commodities have a number of advantages.

“One group of commodities, precious metals, trade on exchanges through exchange traded funds. Because of this they provide a high degree of transparency, investment costs are low and they are liquid.”

ETF Securities provides exposure to precious metals through ETFS Physical Precious Metals Basket (ASX code: ETPMPM), which is backed by physical allocated metal held by a custodian, JP Morgan Bank. ETPMPM tracks the Metals Basket Composite, which is the weighted average benchmark price of the London Bullion Market Association’s prices for gold, silver, platinum and palladium.

ETFMPM has produced an average return of 12.9% a year over the five years to the end of May, which is ahead of the Australian share market return over the same period. Over the past 12 months it has returned 10.4%.

Over the past three months the Fund is up 9.9 per cent, a strong performance that is in response to fears of rising inflation. Its current metal allocation is 41% gold, 33.3% palladium, 18.7% silver and 7% platinum.

Numerous studies over the years have shown that returns from mainstream asset classes suffer when inflation spikes but the returns of gold and other precious metals tend to move into the double digits.

Chugh cites a recent study by Campbell Harvey, professor of finance at Duke University, which reaffirmed that precious metals may be the most appropriate inflation hedge.

“Precious metals also offer portfolio diversification. They have no internal rates of return, unlike shares and bonds, and so their priced are set entirely by supply and demand.

“Whereas demand for most commodities is cyclical, rising and falling with economic activity, precious metals have both cyclical and countercyclical demand. Cyclical demand comes from industrial use, such as jewellery making for gold and silver, and car manufacturing for palladium.

“Countercyclical demand shows itself in demand for gold when stock markets fall. Gold is often referred to as an event risk hedge, producing positive returns when unexpected events occur. It did this during the 1987 share market crash, the 1990 Iraq war, the Russian debt crisis of the late 1990s, the bursting of the dotcom bubble in the early 2000s and the US equity bear market in 2008.

“The inclusion of other metals adds other characteristics: silver’s industrial uses are broader, including in solar panels; platinum is used in engine manufacturing but also has a role in emerging clean energy technology as a catalyst in hydrogen fuel cells; palladium is a key component for scrubbing pollutants from diesel engines,” notes Chugh.

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