Gold vs Cash: Comparing the Pros and Cons
Cash reserves are helpful to have on hand but gold is a safe haven that can also serve as a saving vehicle. There are different cases to either have your money in cash or in gold, but what about holding your money in both?
Some investors hold a balance of gold and U.S. dollars.
At the height of the COVID-19 pandemic, the economy shut down, the stock market crashed and there was uncertainty around how it would all recover. As a result, people were rushing out of risky assets and moving into cash over the past year. Likewise, gold saw record inflows in 2020 with global holdings in exchange-traded funds growing by about 877t.
8 Reasons to Hold Gold
1. Gold has intrinsic value
Gold is known as an asset that protects an investment portfolio against certain economic events. The main characteristic that makes buying gold and owning gold a favorable option is its intrinsic value. Gold is valuable as a scarce commodity with many uses in technology and art. Its composition and properties make it a sound portfolio stabilizer.
A mix of gold coins and gold bars.
2. Gold is a medium of exchange
Gold works very well as a medium of exchange. The yellow metal has been used as money for at least 6,000 years. It is a distinctive and durable precious metal that has helped facilitate commerce since ancient times. Even today, you can sell gold online or at a pawn shop in a matter of minutes.
3. Gold is divisible
Gold is divisible, meaning, it can be divided into smaller pieces so they can serve as a medium of exchange for smaller items. While it can be more difficult to divide gold into smaller units than dividing a currency, it is still an advantage that makes it a strong medium of exchange.
This is not true of specialty gold items like art, gold jewelry, or scrap gold. It also does not apply to gold stocks (i.e. shares of gold mining companies).
4. Gold is durable
Gold bullion is durable, which means it can survive natural disasters and cannot wither away over long periods. It never corrodes or tarnishes when in pure form. The precious metal has been around for thousands of years.
5. Gold has scarcity
Gold is a scarce precious metal. It's difficult (and costly) to find and produce into finished products. Moreover, there is a finite amount of the precious metal on earth. The gold market is global, so this is as true in New York City or the London Bullion Market Association (LBMA) as it is in South Africa or the Middle East.
6. Gold performs well during poor economic times
If there is an economic downturn or financial crisis, gold prices tend to rise. In an economic downturn, companies may not deliver on earnings and their stock prices may falter. In a challenged economic environment, gold holds on to its intrinsic value and preserves purchasing power. Meanwhile, other asset classes could respond negatively as small businesses fail and unemployment rises.
7. Gold is an inflation hedge
If interest rates are low for too long and there is money being pumped in the economy, this can lead to inflation. Central banks have done exactly that through a tool called quantitative easing (QE). Gold is a traditional long-term inflation hedge that can reduce volatility in an investment portfolio.
8. Gold is a portfolio diversifier
Gold makes for a good portfolio diversified because of its low correlation to conventional assets like stocks and bonds. This is to say that when stocks are declining, the rising spot price of gold tends to mitigate a portfolio’s losses.
Gold usually does not enhance portfolio returns, which is why there is only a modest portion (5% to 10%) that tends to be dedicated to one’s retirement account. However, the precious metal holds a positive risk premium which is why it’s a popular asset to have.
3 Reasons to Hold Cash
Despite the popularity of credit cards, a common phrase in the world of finance is “cash is king.” There are several favorable cash characteristics that may compel people to hang on to a fair amount of currency.
Paper money on a silver platter.
Holding cash makes sense when the value of risk assets like stocks is high and investors are not willing to pay a premium for these investments. Another reason is when there are rampant large price swings in the stock market, some investors, namely retirees or pre-retirees, may not be able to withstand the volatility.
1. Cash is durable
Cash is a durable currency, especially when it exists in digital form. Money in the banking system also exists as bank deposits, monitored in bank accounts and ledgers. Users can transfer and trade them at any amount, which makes cash divisible.
2. Cash is low risk
Cash held in a traditional or online bank allows users to accrue interest. Think of this as a reward for holding money rather than spending it. While the returns are low compared to investing in the stock market, this can be an easy way to manage inflation by virtually taking no risk.
During challenging economic times, investors tend to increase their allocation toward cash to minimize their risk in a volatile stock market since the value of cash does not fluctuate in the short-term. Some investors may prefer to hold their assets in alternative investments like gold in this scenario, but gold can sometimes be volatile during a turbulent economy.
3. Cash is a liquid asset
Cash is a liquid asset, meaning it can easily be converted while maintaining its market value. People can easily move in and out of cash as they please. You can withdraw or deposit cash from the bank or use it as a unit of exchange to buy goods and services. This is why cash is the best option for daily transactions.
Increasingly, cash is used in digital form.
Cash can also be deployed immediately to buy more assets when the timing is favorable (i.e. when current market prices are low is a good time). So having ample cash "on the sidelines" allows an investor to react quickly and flexibly to changing market conditions.
3 Risks of Holding Too Much Cash
Cash is not always king, however. Depending on the economic climate, it can be a negative-yielding asset when inflation and taxes are taken into account. For those who have cash on hand, it’s important to know some of the challenges that come with holding too much of it.
1. Cash is not a scarce asset
Cash is not necessarily a scarce asset. The U.S. dollar, for example, is printed by the federal government of the United States and an infinite amount can be produced. If too much money is in circulation, the value of cash can wither away due to inflation over time. Those who are holding onto too much cash can lose purchasing power in the long run.
2. Cash is not backed by anything
Another challenge associated with cash is that it’s not a "real asset." Its value relies on fiscal and monetary policies formed by the government and central bank. If these policies were to prove ineffective, this could lead to inflation or hyperinflation. (This is never an issue with gold bullion coins, by the way.)
3. Cash has no intrinsic value
Cash is a form of fiat money, which does not have intrinsic value because it is not backed by a physical commodity such as under the gold standard. It holds value simply because the government declares it as a legal tender and a medium of exchange. This is why people have agreed to use cash in exchange for goods and services.
In a scenario where the economy were to collapse, fiat currencies could deteriorate in value, leading consumers to lose faith in it. This would be equivalent to finding out you own fake gold worth nothing!
Why You Should Hold Both Cash and Gold
Some people believe you can only exchange cash for gold or vice-versa. A long-term investing strategy (20 years or more) has room for both cash, gold, and a number of other financial securities, such as when you buy stocks on an investment platform. It’s all about striking the right balance according to an investor’s goals and risk tolerance.
You can choose to hold both cash and gold in a balanced portfolio.
Having access to cash for the short-term is necessary. It’s important for people to have an emergency savings account for unexpected expenses that may arise. But while cash is a comforting position, allocating too much in cash is not conducive to building wealth. You don't want all of your money tied up in one entity, whether that is cash, gold, real estate, mutual funds, or otherwise.
If people find themselves with too much cash in a savings account, diversifying into an asset like gold is suitable to protect the value of their wealth in the long term. Gold has stood the test of time as a durable asset and in modern times, one that has low correlation to the broader stock market (e.g. S&P 500).
Written by Paulina Likos
This article is not intended as financial advice. Please consult a professional for your financial planning needs.
More resources about investing in precious metals from the expert authors at Gainesville Coins:
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