Why Gold is No Safe-Haven Asset (And Why It’s Plunging Right Now)

Gold is not a safe-haven asset, contrary to what some gold bugs believe. Perhaps the clearest recent evidence of is its huge declines since early September in response to the European debt crisis and the struggling U.S. economy.

On Thursday, gold prices plunged 3.7 percent.

Meanwhile, the true safe-havens – the U.S. dollar and U.S. Treasuries – rallied.

In times of turmoil, two things happen: investor redemptions from funds and margin calls from brokers.

Both scenarios demand cash or Treasuries. In order to get cash, market participants sell whatever financial instruments they have to raise it.

Investors buy gold with financial leverage and through financial instruments like ETFs. Therefore, it got the same treatment as any other financial instrument during the September liquidation event.

Until gold becomes an acceptable form of payment for margin calls or redemptions, it will unlikely be a safe-haven instrument like the U.S. dollar or Treasuries.

Gold, of course, isn’t a risk asset like stocks or oil; it’s a hedge against inflation risk and currency devaluation. It’s moved by fiscal and monetary policy developments.

Investors shouldn’t confuse gold’s currency debasement hedge status with a safe-haven status. There is a nuanced difference.

At times, gold could behave similarly to safe-haven instruments because economic troubles are expected to drive central banks to loosen monetary policy.

But not always. And the timing could be off.

Please email Hao Li at hao.li@ibtimes.com.