For centuries, precious metals such as gold, silver, platinum, and palladium have been considered a safe haven during economic uncertainty. Unlike paper money, which can lose value due to inflation, precious metals tend to hold their worth or even increase in value over time.
You may have wondered how you could add this valuable asset class to your portfolio, but then you go, “What is the optimal precious metal allocation for my portfolio?” The rest of this guide will take this conversation a little deeper to present you with the answers that you need.
Determining the Ideal Allocation
There’s no one-size-fits-all answer here. It all comes down to your goals, risk tolerance, and overall strategy.
General Guidelines
A general rule of thumb is that 5% to 15% of the portfolio should go into precious metals. Why this range? Because it is enough to get protection without being overexposed to volatility. For beginners, starting with 5% will be wise. As you continue to gain more experience and get confident, the allocation can increase.
Age is a determinant of allocation
The younger the investor, the more time they have to recover in case of changing market conditions. Thus, they can take greater risks. For older investors, the priorities are usually stability and income.
For instance, a person in his 20s might put 10% in the precious metals allocation with higher-risk stocks. A retiree could stick to 5% and pay more attention to bonds and dividend-paying stocks.
Income Level Matters
If you have a regular income, you can afford to invest more in the metals. They are forms of insurance, not primary income producers. If your income is irregular, you’ll need to consider lower allocations to maintain liquidity.
Now, why is it a good idea to have precious metals in your portfolio?
Benefits of Including Precious Metals in Your Portfolio
Precious metals in your portfolio bring along a whole lot of potential benefits with them:
Portfolio Diversification
You may be wondering, why invest in gold or other precious metals markets? Although stocks, bonds, and real estate are excellent options, each one of these can be risky on its own. Physical assets, like gold, add balance because they do not move exactly like other assets.
Say the stock market goes south; chances are, your stocks go plummeting with it. But gold might rise instead. This counterbalance helps smooth out the ups and downs of your well-diversified portfolio.
Hedge Against Inflation
Inflation is a process whereby prices rise, and accordingly, your money buys less than it used to. This is long-term devaluation that gradually eats into the purchasing power of cash and even some kinds of investments. Precious metals, especially gold, tend to at least keep pace with inflation-or sometimes outpace it.
Protection During Market Volatility
Market dynamics are unpredictable. One day, all is well; the next, chaos erupts. That is where precious metals come in: they serve as a protective shield in such times of chaos. In fact, as studies indicate, gold has outpaced the S&P 500 in six of the most recent eight recessions by an average of over 37%.[1]
Long-Term Store of Value
Unlike businesses or government bonds, precious metals don’t rely on someone else’s performance. Their value is based on scarcity and demand. For as long as humans covet these metals, they will always be relevant.
Things to Consider Before Investing in Precious Metals
This isn’t just about buying gold bars or silver coins. It’s about making smart decisions based on your personal situation.
Your Financial Goals
First of all, what is expected from your investment methods? Retirement saving? Building long-term wealth over decades? Maybe a short-run profit?
If it is about long-term positions, then the precious metals answer perfectly. However, in a case when one seeks faster profit, they might be a good idea. Unlike stocks, metals don’t pay dividends or grow rapidly. Their strength lies in preservation, not rapid growth.
For perspective, as of October 2024, gold was retailing at USD$2,790.07 per ounce, far from the USD$35 per ounce in 1934. That is about 7871.63% growth within a 90-year time frame. [2]
Now, contrast that with the shares of a company like Nvidia. Its stock has surged a collective 322,185% in a relatively short 30 years. Companies like Nokia and Yahoo, for example, leading the markets within the same period, have shrunk in value with time. [3]
While the growth of precious metals may not be as explosive as that of tech stocks, their steady appreciation and resilience make them an invaluable anchor of stability across varying economic conditions. This can protect your wealth against unpredictable rises and falls of individual companies and market cycles.
Your Risk Tolerance
How are you with regards to risk tolerance? Some investors love the thrill that comes with taking risks, while other investors would play it rather safely. Precarious metals fall in between.
They’re safer than speculative assets like cryptocurrencies but less predictable than bonds. Market conditions can still swing wildly at times. If you’re someone who gets nervous every time the market moves, you’ll want to allocate carefully. Start small and see how you feel. Over time, you can adjust based on your comfort level.
Current Economic Conditions
The state of the economy has a big role in the performance of precious metals. Inflation, interest rates, and geopolitical tensions are some of the factors that affect their value.
During high inflation, metals tend to do well as they preserve purchasing power. With the rise in interest rates, however, investors may shift toward bonds. Political instability also boosts demand for safe-haven assets like gold.
Liquidity Needs
Liquidity refers to the ease with which one can convert an asset into cash without loss of value. Stocks and ETFs are super liquid. You can sell them in an instant. Physical metals take longer to sell and may be subject to various fees.
Suppose you own a gold bar valued at USD$1,000. Selling it would require finding a buyer, negotiating a price, and arranging delivery. It is a time-consuming process when you urgently need cash
On the other hand, investment through ETFs and mutual funds obviates nearly all problems concerning liquidity. Like any other shares, one can trade the shares in them easily. Easy it is. But it comes with added expenses also. Think annual fees, transaction fees, loading fees, etc.
Tax Implications
Taxes count, too. Depending on your jurisdiction, selling the precious metals can trigger capital gains taxes, depending on the country and type of metal.
In the U.S., for instance, at present, all collectibles-including gold coins-are supposed to be taxed at rates higher than regular investments. If you sell a coin for a profit, you can expect to pay more in taxes compared to stocks or ETFs. Always check local regulations and consult a tax advisor to avoid surprises later.
Closing Thoughts
Precious metals can sure add glamour to your investment portfolios. However, all the same, a balance must be struck with other investments.
To get the right asset allocation strategy, it may be a good idea to touch base with investment experts worth their weight in gold. They can advise you on the way forward according to your budget and financial goals.
Sources
1. “How Does Gold Perform With Inflation, Stagflation And Recession?”, Source: https://www.forbes.com/sites/cme-group/2023/06/02/how-does-gold-perform-with-inflation-stagflation-and-recession/
2. “Has Gold Been a Good Investment Over the Long Term?”, Source: https://www.investopedia.com/ask/answers/020915/has-gold-been-good-investment-over-long-term.asp
3. “10 Best-Performing Stocks of the Past 30 Years”, Source: https://money.usnews.com/investing/articles/best-performing-stocks-past-30-years
