Investing in gold stocks vs physical gold

Gold is often touted as a hedge against inflation and a defensive asset to be used in volatile or falling markets. But with the current inflationary environment and the bearish mood in the stock market, should investors be buying physical gold or gold stocks as a hedge?

For an asset to be used as a hedge, it must rise in price to offset what it is hedged against and to use gold as a hedge means it needs to rise in line or higher than inflation.

Looking at gold prices right now, we know that gold was trading just under US$1800 an ounce in June 2020 and by August 2020 it had risen to around US $2000 an ounce, however, more recently, it has been trading back below US $1800 an ounce.

Over the same period, inflation has risen from 0.7% to 5.1% while the Australian stock market has risen 12.85% since June 30, 2020 to today. Looking at these figures, you would have to agree that gold is neither a defensive asset nor a hedge against inflation.

Since January 1, 2022, the All Ordinaries Index is down slightly more than 12%, while gold is only marginally down, which doesn't support the argument for gold to be used as a hedge although it has been more defensive than holding direct shares.

If we look at the 10 largest gold stocks in 2022, we see falls of between 3.37% for Perseus Mining up to 40.59% for Evolution Mining with the average fall just more than 22% and all are looking like they will fall further.

There appears to be no identifiable reason as to why gold stocks are falling so heavily and why gold isn't falling by much but if you have been looking at gold as a safe haven or hedge, you may want to rethink your strategy.

The best and worst performing sectors this week

The best performing sectors include Information Technology, Consumer Discretionary and Healthcare, which are all up more than 5%. The worst performing sectors include Materials down more than 2% followed by Energy down more than 1% and Industrials just in the red for the week.

The best performers in the S&P/ASX top 100 stocks include Xero up more than 11% followed by Wisetech Global and Block, which are both up more than 10%. The worst performing stocks include Lynas Rare Earths down more than 10% followed by Iluka Resources down more than 6%, while ALS and S32 both are down more than 5%.

What's next for the Australian stock market

The Australian stock market was up strongly at the start of the week rising more than 1% but in the following three days it did not follow suit. For the Australian stock market to have any chance of being bullish in the coming weeks, price needs to hold and preferably trade higher on Friday. That said, regardless of where the market closes on Friday, it is still too early to tell if the All Ordinaries Index has stopped falling.

What is alarming is that retail investors are ignoring the warning signs and buying stocks hoping and, I dare say, praying for them to rise, as there is movement in many speculative stocks as these investors chase short term returns. We are also seeing movement in technology, as well as other stocks that have been hard hit by the downturn as investors continue to speculate. As we know, anything can happen but all too often these investors get burnt.

While it is possible they are right and the market has bottomed, the All Ordinaries Index is far from convincing, which is why it is far better to err on the side of caution. Given this, I am still

recommending that investors sit tight and get ready for the next opportunity to buy that will come in the not too distant future.

Get stories like this in our newsletters.