Gold will protect you during deflation too, says Lombard Odier

November 29, 2011

Private bank Lombard Odier is the latest to crunch numbers to show that gold, despite its current high price, is a good asset hedge for these troubled times.

Since 1920 there have been five global financial cataclysms, the Swiss investment house points out, including the ongoing euro zone and banking crisis. During each of them gold returned an average 21 percent on an annualised basis. During the current crisis too, gold prices have risen 171 percent in the past 58 weeks.

That’s an annualised real return of 20.6 percent, says Lombard Odier CIO Paul Marson.  Marson tells clients:

History as far back as we can go tells us one thing: Gold is a good asset to hold in times of global banking crisis or systemic collapse of financial systems.

But what of gold’s image as an inflation hedge?

True, gold performs best during times of very high inflation, LO admits.

But data also shows that during the five periods of deflation since 1929, gold’s real annual returns averaged a healthy 8 percent. Today’s environment, with economic recession  and a deflationary spiral looming for the developed world, would thus seem a good one for gold.

Thomson Reuters data shows sharp spikes in gold prices during the U.S. recessions of 1973-75, 1980 and 1990-91, followed by steep falls. In 2008, prices surged initially, crashed after the Lehman Brothers collapse but recovered swiftly through 2009. This time around, LO expects gold prices to be protected by central banks’ new found enthusiasm for the yellow metal — their purchases this year could total 450 tonnes, according to the World Gold Council.

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“During the current crisis too, gold prices have risen 171 percent in the past 58 weeks.

That’s an annualised real return of 20.6 percent, says Lombard Odier CIO Paul Marson.”

FALSE — 171 percent does not equate to an annualized real return of 20.6, unless you’re reasoning in some currency belonging to an economy suffering from hyperinflation. Even assuming 17.1% instead of 171%, the numbers don’t look right if your base currency is the dollar. An annualized nominal figure would be less than 17.1% (58 weeks is longer than a year) and the U.S. is not experiencing deflation right now.

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