What we found: A portfolio primarily allocated to equities, supplemented by moderate Gold exposure, can offer not only more stable risk-adjusted returns but also potentially higher absolute returns with reduced drawdowns compared to a Nifty/Equities-only allocation strategy. Given its historical performance, Silver only merits a small allocation in constructing a low-volatility portfolio.
Introduction
Did you know that so far in 2024, Silver has returned over 30%, followed by Gold with 23% compared to 15% for the Nifty?
₹100 invested in the Nifty three years ago would be worth about ₹141 now – a healthy 40% cumulative return. But you would have done better with Silver or Gold.
An investment in Silver in October 2021 would now be worth ₹153, 8% more than the Nifty, and Gold would be worth ₹159, a very respectable 13% more than the Nifty investment. And that is without considering the additional yield if held in the form of Sovereign Gold Bonds.
Clearly, this is a specific window of time, and since one swallow does not make a summer, what if we compared the longer-term rolling return trend of the three assets?
Historical Performance: A Tale of Three Assets
The chart shows rolling three-year returns of the Nifty, Gold, and Silver from 2003. The coloured bar at the top shows which asset led at each point in time.
Based on the last three year’s return, silver and Gold are currently ahead of the Nifty. Historically, that has not been the case. Over two decades, the Nifty has been ahead 56% of the time, with Silver and Gold ahead 23% and 21%, respectively.
Comparing Annual Returns: Nifty, Silver, and Gold
The table shows calendar-year returns of the three assets over 24 years, from 2000 to YTD 2024, with the top-performing asset in each year.
Year-to-date, Silver leads by a distance, with Gold not far behind. In fact, Silver has beaten the Nifty in three of the last five years.
In 24 full years from 2000 to 2023, Silver ended the year ahead in five of them. Gold in seven, and the Nifty closed the year with the highest return in the remaining 12.
The Two+ Decade Performance Report Card
The table below shows the performance summary of the three assets, Silver, Gold and the Nifty, from 2000 to October 2024.
Over two decades, the Nifty has shown the highest return, but not by as much of a margin as one might expect. But the Nifty leads Silver and Gold in terms of share of time leading on rolling return periods, and the increase in that share over longer holding periods means the Nifty has been more likely to give you higher returns relative to the shiny metals, the longer you held.
On the downside, the Nifty has seen the worst drawdown and higher annualised volatility than Gold.
Gold has a lower return than the Nifty but with significantly lower drawdown and volatility. Silver is the worst long-term performer of the three, with a drawdown comparable to the Nifty and significantly higher volatility.
So, do Gold and Silver make sense in a long-term investment portfolio?
The Theoretical Case For and Against Gold and Silver
There are strong proponents on both sides of the debate of whether assets with no intrinsic value i.e. the ability to generate future cash flows, can be considered investments.
Some of the most-repeated arguments in favour and against holding Gold and Silver:
For
- Store of Value: Gold and silver preserve value and purchasing power, especially during economic uncertainty.
- Portfolio Diversification: They diversify portfolios and reduce volatility due to low correlations with stocks and bonds.
- Supply Constraints: Limited supply and growing demand can drive prices up.
- Safe Haven Appeal: Investors seek them as safe havens during crises, boosting prices.
- Potential for Price Appreciation
Against
- No Cash Flow: Unlike stocks and bonds, gold and silver do not generate any cash flows, which goes against the classical definition of an investment
- Holding Costs: Owning physical metals, whether directly or through investment vehicles, incurs storage and insurance costs.
- Opportunity Cost: Their long-term returns have historically lagged behind stocks, so why bother?
- Emotional Decision-Making: Speculative interest and emotions can lead to ill-timed buying/selling decisions.
- Potential Price Volatility: Prices can be highly volatile, driven by shifting investor sentiment.
Whether or not these metals make the cut for every investment need, their longevity and universal acceptability allow us to study their role as investments.
Why not 100% Nifty: The power of holding uncorrelated assets
If Nifty has the highest annualised return over two decades, why bother with considering either Gold or Silver? Why not be 100% allocated to the Nifty and count on its long-term edge to play out? After all, a ~1% incremental return compounded over two decades is a portfolio that’s nearly 20% bigger.
This is where the power of asset allocation can get counterintuitive.
The answer to whether an asset makes sense as an addition to a long-term portfolio depends on the extent to which it moves together with what you already own.
Consider Gold. During the global financial crisis of 2008, when the Nifty fell by over 50%, gold proved to be a safe haven, rising by nearly 30% in the same year.
The table below shows the pair-wise correlation of monthly returns between Silver, Gold, and the Nifty.
The most notable in the table are the low correlations of the Nifty with both Gold and Silver.
Harry Markowitz first proposed combining non-correlated assets to improve risk-adjusted returns. However, it is not as apparent that a portfolio combining different assets can also outperform the best-performing standalone asset on an absolute basis, provided it is rebalanced periodically.
An example: The 50:50 Nifty-Gold Portfolio
Consider a simple approach of allocating 50% each of ₹100 to Nifty and Gold at the start.
- After Year 1: Let’s say the Nifty is up 10%, and Gold is down 5%. The portfolio is now ₹102.5 (₹55 in the Nifty and ₹47.5 in Gold).
- Start Year 2: ₹3.75 of the Nifty is sold to buy an equivalent value of Gold, resetting the portfolio to ₹51.25 in the Nifty and ₹51.25 in Gold.
This continues each year when the asset that gains more is pared down to buy more of the asset that lost value. How would such an approach have done when followed for two decades?
The chart shows the cumulative equity curve of the 50:50 Gold-Nifty Portfolio.
The 50:50 strategy cumulative does better than 100% allocation to either asset class over the long term. It also does that with moderate drawdowns compared to the Nifty.
The table shows summary metrics for nine combinations of Silver-Gold-Nifty, in addition to 100% Silver, Gold and Nifty portfolios. Notice six of them show higher annualised returns, and all of them show better (lower) volatility and drawdowns than the Nifty.
Combining Gold and Silver with the Nifty offers better risk-return when maintained over the long term.
But how does one arrive at that ideal combination?
Exploring Optimal Allocations: The Efficient Frontier
In the above table, we examined a select set of asset allocation combinations to see how multi-asset portfolios would have performed relative to the Nifty.
The graphic below shows the outcome of every possible allocation combination to the three assets from 0 to 100% in increments of 1%, giving us over 5,000 possible allocations.
The chart shows the risk (volatility) and reward (CAGR) of each of those 5,000+ combinations. It also highlights the 100% asset portfolios and the highest-return and lowest-volatility portfolios along with the 100% Gold, Silver and Nifty portfolios.
Reading this chart: Consider the 100% Nifty dot roughly in the centre of the chart. The y-axis shows the annualised return of 13.2% from 2000 to Oct 2024 and the x-axis represents the annualised volatility of 22% it endured over that time. Any portfolio to the left of the Nifty has been less volatile and any portfolio higher than the Nifty has delivered higher returns. Portfolios both, to the left and higher than the Nifty have delivered higher returns with lower volatility. The optimal portfolios have been highlighted. The dots have been shaded as per the worst drawdown they experienced, lighter colours mean better drawdowns.
According to our analysis, the highest return while minimising volatility from 2000 to 2024 would have come from holding a combination of 32% Gold and 68% Nifty. The lowest volatility combination while maximising return would have been a Gold-heavy portfolio with 62% Gold, 35% Nifty and a small 3% Silver allocation.
In spite of its standout performance in 2024, Silver does not justify a significant allocation in the long-term investment portfolio.
Chart below shows the cumulative performance of the individual assets along with the optimal return and volatility portfolios
Implementing a Nifty plus Gold and Silver Allocation: Practical Considerations
Optimal Allocations Depend on Historical Data
The very specific allocations discussed in the previous section are unlikely to be the perfect combination going forward. Optimal Portfolio Analysis relies on historical price movements and depends on the chosen date range. For instance, beginning our analysis ten years later, from 2010 to the present, yields the highest return combination as an even more Nifty-heavy portfolio with a lower allocation to Gold.
Transaction Costs and Taxes Impact Returns
The analysis does not consider transaction costs and capital gains taxes from yearly rebalances, which would reduce but not eliminate the excess return of the annually rebalanced strategies. In the real world, these factors eat into returns.
Future Performance is Uncertain
The core assumption is that physical assets, like Gold and Silver, will continue their historical behaviour in the future. However, their prices will be determined by supply and demand, which like most things, is unpredictable.
Implementability Has Improved
While our analysis goes back to the year 2000, Gold ETFs in India have only been available since 2007, and Silver ETFs even more recently since 2022. Until then, implementing such an allocation strategy would have required owning the metals physically, making yearly rebalancing significantly harder. Fortunately, ETFs have made it much easier for investors to gain exposure to precious metals in a portfolio.
Not for the Perennial Comparison Shopper
This approach is not for those who constantly compare their portfolio’s performance to the market. The optimal portfolios from our efficient frontier analysis both trail the Nifty on three- and five-year rolling returns nearly 60% of the time. Any multi-asset portfolio combining lower-return assets will lag equities over long periods, especially during bull markets. This can make the decision to allocate to staid assets like Gold appear foolish.
The Behavioral Advantage of Diversification
Holding uncorrelated assets like Gold and Silver can provide a psychological boost during equity market downturns. When stocks are plummeting, watching the value of your precious metals holdings rise can help you stay the course and avoid panic selling. As the saying goes, “Put 10% in Gold and hope it doesn’t work.”
Key Takeway: The case for Gold (and only a little Silver)
A portfolio primarily allocated to equities, supplemented by moderate Gold exposure, can offer not only more stable risk-adjusted returns but also potentially higher absolute returns with reduced drawdowns compared to a Nifty/Equities-only allocation strategy. Given its historical performance, Silver only merits a small allocation in constructing a low-volatility portfolio.
Ironically, the urge to switch all allocation to equities is strongest precisely when exposure to other assets is most needed. As the legendary investor Benjamin Graham advised, “The best way to measure your investing success is not by whether you’re beating the market but by whether you’ve put in place a financial plan and a behavioural discipline that are likely to get you where you want to go.”
As an investor, it’s worth asking yourself: Is my portfolio adequately prepared for future uncertainties? A judicious allocation to gold alongside equities may provide resilience and peace of mind to stay invested in the long run.
Anoop is on Twitter @CalmInvestor
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