The Motley Fool

Gold Stocks: The Best Portfolio Protection

Image source: Getty Images.

As markets have been growing with volatility the last couple of weeks, many investors are wondering what they can do to protect their capital. Gold is always known as a safe-haven asset, but a number of gold miners have been sold off as well. Not to mention, the price of the precious metal has been flat to down in the past three weeks of intense volatility.

Gold being down as markets are crashing and fears are rising is a peculiar sight for investors. However, it’s normal that it gets sold off at first. This is because when fear initially strikes, investors’ demand for cash, and nothing else, goes up.

That will eventually change though, so here is what you need to know if you’re considering making a gold investment.

What’s happened so far

As the market sold off, investors may have noticed gold stocks plummeting just as fast and wondered why.

Usually, when fear first strikes, the number one asset investors want to hold is cash, and that includes selling gold stocks to get it.

In addition, a lot of gold companies employ debt, which could also be troubling if credit markets dry up in a global recession.

This is what we’ve seen till now, with many gold stocks trading lower than they were just a few weeks ago, despite the price of gold being relatively flat.

When central banks cut rates, many companies got a bump to their share price for two reasons. Cash becomes worth less when interest rates are decreased, so investors are more incentivized to buy the stocks again. Furthermore, it eases the fears of reduced credit, even if it’s just for the time being.

What to expect

Going forward, it’s impossible to predict what will happen with markets and the economy. What you can predict is what will happen to gold based on the results.

If fear continues in markets, I wouldn’t be surprised to see gold stocks fall even further. If that happens, it will create a major buying opportunity for investors.

Central banks will all inevitably have to decrease rates again, as the economy actually gets worse. The fed is even scheduled to meet on March 17.

The last rate cut was more of a progressive move from the Bank of Canada and the Federal Reserve, but going forward, if the data shows the economy is slowing, both central banks, and those around the world, will have no choice but to add even more monetary stimulus.

When the inevitable stimulus comes, that’s when you can expect a big jump in the price of gold, as dollars are rapidly devalued, and investors seek out the safety of gold to hedge against inflation.

How you can invest

Investors looking to take advantage, buy gold stocks to protect capital, and grow it as the dollar is devalued should consider buying the iShares S&P/TSX Global Gold Index ETF. By buying this ETF, investors can gain exposure to the gold industry, without having to worry about company specific risk.

Gold miners are an ideal choice when you expect the price of gold to rise. This is because most companies are leveraged to the price of gold. That means if the price of gold increases by 20% over a certain time period, almost every miner will be up by more than 20%, with all else being equal.

Bottom line

For now, volatility isn’t going anywhere, especially when it comes to gold stocks. So, investors should treat a gold investment like any other.

You’ll want to be disciplined with your entry point, eliminating any impulse decisions. You’ll want to make sure you’re buying undervalued stocks; the XGD is undervalued at these levels. Lastly, you’ll want to hold it for a considerable time period, while central banks stimulate the economy and devalue cash.

By doing this, you’ll be in the best position to protect your wealth and position it for future growth.

Just Released! 5 Stocks Under $49 (FREE REPORT)

Motley Fool Canada's market-beating team has just released a brand-new FREE report revealing 5 "dirt cheap" stocks that you can buy today for under $49 a share.
Our team thinks these 5 stocks are critically undervalued, but more importantly, could potentially make Canadian investors who act quickly a fortune.
Don't miss out! Simply click the link below to grab your free copy and discover all 5 of these stocks now.

Claim your FREE 5-stock report now!

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Daniel Da Costa has no position in any of the stocks mentioned.

Two New Stock Picks Every Month!

Not to alarm you, but you’re about to miss an important event.

Iain Butler and the Stock Advisor Canada team only publish their new “buy alerts” twice a month, and only to an exclusively small group.

This is your chance to get in early on what could prove to be very special investment advice.

Enter your email address below to get started now, and join the other thousands of Canadians who have already signed up for their chance to get the market-beating advice from Stock Advisor Canada.