While gold is quite risky as an individual asset, its returns are generally independent of those on other assets. This suggests that gold can play an important role in a diversified portfolio. Tests of four hypothetical portfolios of varying risk show that the addition of gold in each case increases average return while reducing standard deviation.
Gold stocks might be expected to be better investment vehicles than gold itself, because they do not share gold’s high liquidity, consumption and convenience values. A portfolio of gold stocks on the Toronto Stock Exchange and a mutual fund of South African gold-mining stocks mirror the returns on gold. Adding a combination of these gold proxies to the hypothetical diversified portfolios raises their mean returns but also increases their standard deviations. The increase in returns, however, more than compensates for the increased risk.
