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A Behavioral Approach to Investing

Using Scientifically Engineered Models

What about precious metals?

Precious metals have always been such a quandary. Certain TV networks, podcasts, and radio shows bombard the listeners about the benefits of owning precious metals. With the fears of "socialism" and "unlimited money printing" running rampant on those networks, we've found the interest in precious metals escalating in our client base.

I'm not making light of those fears. We do have to remember the networks live on advertising and often they find it in their best interest to cater to their advertisers. It can turn into a feedback loop where the viewer cannot help but believe the worst (this goes for all networks).

We have to take a step back and focus on the bigger picture.

The wisest advice I ever heard on how much precious metals somebody should own in their portfolio came from Art Cashin, the long-time head of trading at UBS. “just enough to bribe the border guards”.

The reasoning is there is not enough physical metal in the world to cover all the paper currency. If the US dollar loses too much value we will see global chaos. Getting physical metals out of an IRA will be close to impossible, so the only way to have a true hedge is to hold coins in a safe at home (not a bank deposit box). That of course is not possible in an IRA, which is where most people hold their assets.

We’ve tried for two decades to find systems to heavily utilize precious metals. Every time the returns do not justify the high risks. We do see precious metals show up occasionally in EGA and even INA (5-12%) if all other assets are trending lower. Most of the time there are more attractive assets even if the market is worried about high inflation.

The academic role precious metals plays in a portfolio is the non-correlation to other assets.  

We created Dynamic Asset Allocator (DAA) to fill this role. It holds around 20% in “market neutral” funds, including those that invest in precious metals (as well as going short different assets at different times). The rest of the model follows our economic model with the difference of it will be long one category and short another, keeping market exposure between +20% to -20%.

It can also invest in INVERSE Treasury funds, which theoretically would rally at the same time precious metals would rally. With our economic model currently at “neutral”, we aren’t there yet, but are close.

[Side note: Dynamic Income will also have around a 10% position in inverse Treasury funds when the economic model indicates rapid growth. Tactical Bond utilizes high yield bonds, which theoretically would benefit from a rising inflation environment since it would allow these highly leveraged companies to pay back their debt with lower valued dollars.]

I’ve always described DAA as a transparent, cheaper, hedge fund available to all investors. It is difficult for most to understand, so we typically reserve using it for the more sophisticated, higher net worth clients. We also tend to cap its use around 10-20% of the overall portfolio.

You can view the factsheet for Dynamic Asset Allocator here.

Here's a chart comparing DAA (blue) to IAU (orange) (the iShares ETF which owns physical gold) and SPY (the S&P 500 index) going back 15 years. I'm heavily biased, but I would argue DAA has a higher "hedge" against uncertainty than gold.

Illustrative purposes only – Not investment advice. Past performance is not a guarantee of future results. Please see the disclaimer at the bottom of the page.

When I looked at correlations, DAA actually provides a slightly better hedge against the S&P 500 (-0.20% correlation) versus IAU (0.14% correlation).

I realize this doesn’t provide the psychological “benefit” of having pure precious metals in the investment portfolio, but I wanted to provide the research and thought process we’ve gone through at SEM.

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New Kent, VA
Jeff joined SEM in October 1998. Outside of SEM, Jeff is part of the worship team at LifePointe Community Church where he plays the keyboard and bass guitar. He also leads a small group Bible study.