How Will Gold Perform In the Next Recession?

The odds of another recession are 100%.

That’s not to say one is imminent. But, neither is it a wild prediction. There have been 13 official recessions in the U.S. since The Great Depression. There have been as many as 47 since 1790.1 History tells us the U.S. will – sooner or later – enter another recessionary period.

Let that sink in for a moment. No matter your personal level of optimism or how much money you’ve made in the markets, another recession is inescapable.

And, with global growth slowing (as you’ll see below), it’s possible that the next one could strike this year. But, regardless of when the next one arrives, it will likely have an impact on your investments.

So, how does gold typically perform during periods of recession? Let’s look at how the gold price has behaved in all recessions since 1970, and also examine its current context to gain some insight on what we might expect.

U.S. Growth Is Falling
Recessions are the result of an economic slowdown, where economic output turns negative. The most common definition of a recession is two consecutive quarters of negative gross domestic production (GDP).

And growth is definitely slowing:

  • In November, U.S. industrial production declined 1.17% from the prior year. Since 1920, it was the 19th time industrial output has gone from positive to negative – and 15 of those previous 18 coincided with recession.2
  • The National Association of Realtors (NAR) reported that existing home sales fell a precipitous 10.5% in November, the weakest in 19 months.3
  • The Chicago Purchasing Manager Index (PMI) plunged to 42.9 in December, its lowest reading since 2009.4

So, what might happen to the gold price in the next recession?

How Gold Has Behaved During Past Recessions
One can’t say with any certainty how an investment class will perform during an economic slowdown. However, we can look at how it has performed historically. The chart below (Figure #1) shows how gold’s price has behaved during each of the past seven recessions.

Fig. #1
Gold’s Performance During Recessions

Source: EverBank Research Team, based on an analysis of publicly available data from Thomson Reuters, Federal Reserve.

Since 1970, in five of the last seven recessions, the price of gold at the end of the recession was higher than the price at the start of the recession. And, only one of the declines was significant (-9.1% in 1990). Even in the midst of the financial crisis of 2008-09, gold moved higher. This makes sense when you think about it. A weakening economy usually increases fear among investors, and gold is a natural refuge when fear rises.

Each situation is different, but historically, gold has done well more often than not.

Our Prognosis For Gold In The Next Recession
Let’s look at gold’s current context. There is additional evidence that we think suggests that the shiny metal may do well in the next economic slowdown.

1. Gold bears are losing interest. Short interest has been high on gold for several years now. But that’s changing. The numbers of bearish bets on SPDR Gold Shares (GLD, the largest gold ETF) are falling. The put-to-call ratio in December reached its lowest level since 2008 (Figure #2).

Fig. #2
Put-to-Call Ratio For SPDR Gold Shares

Source: EverBank Research Team, based on an analysis of publicly available data from Bloomberg.

In other words, many investors who have been bearish are closing out their bets. They see less opportunity to make money from the gold price falling. If there are fewer bearish bets, the price has less downward pressure.

2. Large and growing interest from successful hedge funds. It may have escaped significant notice, but many hedge fund managers seem to be gold bulls:

  • Stanley Druckenmiller, Duquesne Family Office and former chief strategist for George Soros: in August of 2015, his fund purchased 2.9 million shares of a gold-based ETF, making it one of the top 10 holders of the ETF.5
  • John Paulson, Paulson and Company: his company has owned gold for several years. For example, as of 9/30/15, it owned 9.2 million shares of the same gold-based ETF. At $1,000 gold, that’s about $920 million!6
  • Ray Dalio, Bridgewater Associates: his fund allocates 7.5% of the portfolio. He also owns shares of various companies in the gold industry.7
  • David Einhorn, Greenlight Capital: like Paulson, he’s owned gold for several years. For example, he owns 6 million shares of a gold miners ETF.8
  • Carl Icahn, Icahn Enterprises and related businesses: in August 2015, this group disclosed 8.5% ownership of a gold and copper producer.9

These are large hedge funds and it seems clear they see a need to have significant exposure to gold right now.

3. Gold nearing a cycle end. The spot price for gold has fallen three consecutive years (2013-2015). The last time it did that was from 1996 to 1998. And, since becoming legal to own again in 1975, it’s never fallen four consecutive years. Take a look below at Figure #3.

Fig. #3
Percentage Change In The Price Of Gold Year-To-Year

Source: EverBank Research Team, based on an analysis of publicly available data from Kitco, London Gold Fix.

Of course, there are no guarantees, and past performance cannot predict future results, but we think that there is the potential that gold breaks its downtrend and is positive in 2016, making gold something to think about.

The Message For Investors
The past 45 years of history suggest that the gold investor may need not fear the next recession, regardless of when it may arrive. Over that timeframe, gold has risen during recessions more often than it has fallen.

And, there is evidence that gold’s bear market may be nearing its conclusion – bearish bets have fallen to 2008 levels, some prominent hedge funds have bought, and the price has never fallen four years in a row.

All this said, owning gold isn’t just about the possibility that it may do well in the next recession. It’s about the potential to help protect your portfolio against crisis, preserve your lifestyle against inflation or deflation, diversify your assets, and hedge your portfolio against other assets such as stocks.

An asset with those characteristics may be worth considering, regardless of what it may do in the next recession. And, with the price steadily falling since its 2011 high, gold is currently priced at levels not seen since 2009.

Until the next Daily Pfennig® edition…

Tim Smith
Vice President, World Markets Sales and Servicing Trader
EverBank World Markets, a division of EverBank