Tilney Bestinvest has reduced its exposure to sovereign bonds for the first time since the financial crisis of 2008 to buy more gold, according to chief investment officer Gareth Lewis.
The CIO warns that the increased correlation between asset classes over the years has meant that it is now more difficult than ever to achieve sufficient portfolio diversification – this is why he added gold to the firm’s entire portfolio range last October when it fell out of favour.
Performance of indices in Q3 and Q4 2015
Source: FE Analytics
Since the start of the year, however, the S&P GSCI Gold Spot index has rallied, having more than doubled the MSCI AC World index and the IA Global Bonds sector with a total return of 40.57 per cent. 
“From the post-TMT [dot com boom] period everything became highly correlated – equities went up and bonds went up. What has happened since Brexit? Bond yields have collapsed and equities have gone up,” Lewis (pictured) said.
“The gold price has gone up. Everything has gone up. Why is it all going up? Because there is too much liquidity in the system. The fact that everything is becoming highly correlated means there is a big risk – there are very few areas you can allocate to which are not linked to this in some way.”
“That is one of the reasons I returned to gold last year, because then it was very much unloved and it was an under-owned asset compared with virtually everything else.”
What may come as a surprise to some investors though is that he has plans to further increase his gold exposure in every centrally-managed fund at Tilney Bestinvest by between 2 and 3 per cent by the end of the week. This is after already increasing the firm’s exposure to gold over the last five or six months.
FE Alpha Manager David Coombs, who is head of multi-asset at Rathbones, has long been negative on the yellow metal and has held US treasuries as a hedge against risk recently instead.
“I won’t touch [gold] with a barge pole. I’ve held no gold throughout this period, I’ve held US treasuries instead. Not having gold but having that money in US treasuries, I’ve made a lot of money from the US because of it. There is a better risk-off trade than with gold, I think the euro is very vulnerable and the dollar could strengthen significantly,” he warned.
Performance of currencies over 10yrs
Source: FE Analytics
“I can’t see UK interest rates rise for three to five years now whereas interest rates will rise in the US. If you already hold gold it’s alright, but I can’t value gold as it’s had such a run. It tends to be inversely correlated to the dollar as when the dollar rises often the gold price falls. I think gold is quite a technical trade now.”
While Coombs expects the Fed to continue to hike rates, Lewis holds the opposite opinion and believes that gold will allow investors to retain wealth while ultra-loose monetary policy impacts the value of currency.
Despite markets initially expecting further rate rises from the Fed at the end of last year, the CIO says that this is now unlikely given that global economies will be unable to cope with a stronger dollar.
“We think there is a long-term argument for secular stagnation that is driven out of capital misallocation in China, we see significant concerns in the bond market and primarily in high yield, some of the stresses that have come out of high yield are via the oil markets, which I think is one of the big warning signs of what’s going on,” he continued.
“I think the piece that flips neatly into Brexit is that we see a change in the way in which policy will be set from central banks and monetary policy to politicians and fiscal policy. The Brexit vote, and a lot of the other things that devolve from that, are to us the first signs that policy is changing and that there is a potential shift from Wall Street to Main Street in the way that policy is set. This is going to be one of the big headwinds for risk assets over the next few years.”
Investors often use gold holdings as something of a ‘put option’ against central banks, given that it will retain its value if currencies take a nosedive.
In an article published at the end of last year, Troy’s Sebastian Lyon explained that he retained his gold exposure at a time when the asset class was suffering in case of a debasement in currency across the globe.
“As a hedge against future market instability and ongoing monetary experimentation, gold has become cheaper. To act as genuine insurance against the other risks with the Trojan fund, the insurance coverage has to be substantial. At the moment that cover amounts to around 10 per cent of the fund’s assets,” he said.
“In our opinion, much less would result in meaningless protection. Much more would not represent insurance but rather a statement that governments and central banks are certain to lose control of the money supply.”
Performance of fund vs sector and benchmark since launch
Given that Lewis believes that a shift from “Wall Street to Main Street” will indeed happen, this is a further reason why he is positive on gold.
“I think central banks will carry on as they are until politicians put a stop to it and therefore you’re probably in the early stages of that transition,” he explained.
“I think that the likely course of events is that you get QE and a rate cut in the UK, at some point you will get further stimulus out of the US, and it’s only after that you will get this big shift to fiscal policy.”
“At the moment, gold to us - because interest rates are effectively zero - is actually quite a useful hedge for us within portfolios.”
