The debate between Bitcoin vs. gold as a hedge against inflation has been raging on for years. While some investment analysts predict that Bitcoin will continue to take market share from gold as a byproduct of broader adoption of digital assets — and possibly due to Bitcoin-specific scaling solutions — others argue that with the crypto market at large being down since the start of the year, now is a good time to turn to gold.
And some, such as Adam Perlaky, senior research analyst at the World Gold Council, suggest that both can co-exist in a portfolio.
Perlaky told GOBankingRates, however, that gold is a distinct asset from cryptocurrencies and that demand is much more diverse, with nearly half of demand coming from the jewelry and technology industries. According to a Jan. 2022 World Gold Council report, consumer demand for jewelry grew by 52% in 2021, fully recovering 2020 losses while rebounding to match 2019’s pre-pandemic levels.
“Bitcoin demand, in contrast, is almost entirely linked to investment, often focused solely on price performance. Gold is also a well-established hedge against market risk,” Perlaky added. “Bitcoin has yet to behave as a hedge during market turmoil.”
Gold and Cryptos: Similarities and Differences
The argument that gold and cryptos are similar hedges appears to stem from perceptions of their scarcity and their role as alternatives to fiat currencies. However, the World Gold Council deems such a comparison “simplistic and overlooks fundamental differences between gold and cryptocurrencies — not only in terms of their market dynamics but also in terms of their performance and the role they play in portfolios,” per a Feb. 2 blog post.
“Gold and cryptocurrencies are different assets, serving different purposes,” Perlaky told GOBankingRates. “Limited supply of both often brings cryptos into the same conversation with gold. However, cryptos have yet to become an established medium of exchange, partially as the extreme volatility, at times, erodes purchasing power in a short period of time.”
He added that cryptos increase portfolio volatility meaningfully, while gold has historically increased risk-adjusted returns.
“Our analysis also suggests that for those investors who do choose to invest in cryptos, having additional gold in a portfolio helps curb some of the portfolio volatility,” he said.
Trillions of Dollars in Gold Held for Investment Purposes, Bitcoin Catching Up
In a note sent to GOBankingRates in January, Goldman Sachs analyst Zach Pandl wrote that the World Gold Council estimates that the private sector owns 44,000 metric tons of gold for investment purposes, such as privately-held bars and exchange-traded funds (ETFs). This implies that the public owns about $2.6 trillion of gold for investment purposes. By comparison, Pandl wrote that Bitcoin’s float-adjusted market capitalization is currently just under $700 billion.
“Therefore, Bitcoin currently commands a roughly 20% share of the ‘store of value’ (gold plus Bitcoin) market,” Pandl wrote.
Hypothetically, if Bitcoin’s share of the “store of value” market were to rise to 50% over the next five years (with no growth in overall demand for stores of value) its price would increase to just over $100,000 — resulting in a compound annualized return of between 17 and 18%, according to Pandl.
It’s also worth noting that despite 2021 having been a wild ride for cryptos — and Bitcoin finishing the year lower than expected — Bitcoin outperformed both gold and the stock market for the third year running.
In terms of the 2022 outlook for gold, a rising interest rate environment could represent a headwind for gold. The effect of such hikes is often limited, however, especially during a period exhibiting historically low absolute and negative real rates, Perlaky said.
“Equity pullbacks have become more frequent and sharper in recent years and higher inflation will likely sustain demand for gold as a hedge. Finally, strong jewelry and central bank gold demand may provide additional long-term support for gold. Understanding trends besides investment is important because the multifaceted nature of demand is a unique attribute of gold and a key reason why it’s an effective strategic component of portfolios,” he said.
Gold May Have a Turbulent Near Future, Though Bar and Coin Demand Remains Strong
However, Craig Erlam, senior market analyst with OANDA, wrote in a Feb. 3 note sent to GOBankingRates that gold is currently suffering as more tightening is priced in.
“Gold appears to have fallen back into consolidation and is even a little lower today after paring some of last week’s losses in the early part of the week. Central banks upping their game is not favorable for the yellow metal and we are now seeing that across the board, from the Fed maybe raising interest rates five times, to the Bank of England perhaps doing similar and even the European Central Bank joining to a much lesser degree,” Erlam wrote.
Finally, another trend for gold that seems to be turning around is outflows in gold exchange-traded funds.
Perlaky said that through the month of Jan. 2022, global gold ETFs have recouped nearly a third of the 2021 outflows, driven primarily by U.S.-listed funds on the back of continued inflation concerns and growing geopolitical risks.
“And while there were net outflows in 2021, they were small compared to a record setting year of inflows in 2020. Furthermore, investment demand for gold is not isolated in just gold ETFs. Bar and coin demand, another form of gold investment, jumped 31% last year, with record buying in the U.S. and Germany,” he said.
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