Australia Increases Gold Holdings in Sovereign Wealth Fund

Australia’s sovereign wealth fund (known as the Future Fund) is increasing its gold holdings, commodities, and private equity to combat the likely emergence of a 1970’s style stagflation. The Fund released a paper detailing its assessment of economic risks and its strategies to deal with them. The paper asserts the traditional 60/40 portfolio is no longer a viable option to hedge against market volatility.

Established in 2006, the Australian Future Fund is part of six investment initiatives to benefit future generations of Australians. The managed fund value is around $135 billion. The Fund has a legal mandate to meet specific investment objectives, including a return of Consumer Price Index (CPI) + 4 to 5% per annum over the long term as the benchmark return on the Fund, minimize risk, and minimize the potential to affect any abnormal change in market volatility, and align with international best practices for institutional investments. Any change to investment strategy or portfolio allocations must comply with these mandates. 

Several global phenomena have shaped the traditional investment strategies which no longer apply to current economic conditions. War, deglobalization, inflation, and rising interest rates have changed the world in many ways and faster than could have been predicted. The changes have challenged traditionally held notions about portfolio allocation over the last 40 years. 

Those phenomena include 30 years of globalization since the fall of the Berlin Wall, three decades of rapid Chinese growth, four decades of falling interest rates, 13 years of extremely loose monetary policy and QE, and lower tax rates. These and other factors led to investment strategies that favored these conditions. Still, the economy has shifted, and most of those trends reversed. “These trends have provided a tailwind to investment returns, which can no longer be relied upon (page 2).”

The economy has shifted to a higher-risk environment. Risks include a global geopolitical fracture, bigger governments, more extreme monetary policy, and a risk of sustained high inflation. The future is less certain than ever before. More uncertainty requires a different investment strategy and portfolio allocation paradigm. The paradigm should mitigate as much risk as possible. The following chart shows how certain events could affect asset prices. 

 Many effects of these potential paths can be already observable. For example, Russia’s invasion of Ukraine crippled European energy, and the Dollar’s hegemony is being challenged by the BRICS nations. The authors speculated about the evolving investment environment.

The authors concluded there is a high probability of slow growth, high unemployment, and rising prices like in the 1970s. Due to weak growth, high inflation, and unemployment, bonds did not serve as a strong diversifier for equity risk in the 1970s. During the 1970s, institutional portfolios with a 60/40 portfolio lost about 2% in real terms annually (page 6). 

The authors believe the 1970s are the best model to understand where we are going but acknowledging history is only a partial lesson. There are some significant differences between the 1970s and now. For example, today, there is higher government debt, wars are more likely, rapid technological expansion, and the changing political environment around climate initiatives. There is more uncertainty now than in the 1970s, so it is more important for dynamic strategies to diversify and create portfolio resilience.

The Future Fund shared its strategies to make its portfolio more resilient. The strategy chosen for inflation defense is adding gold and other tangible assets. 

The Australian Future Fund is not part of the Aussie government, but laws regulate it. The Fund must return at least 4% above the CPI and mitigate risk. The Fund examined the current geopolitical, economic, and social environment. They have explored the likelihood of future outcomes and looked to the past for insight. The fund managers concluded that the best strategy was to remove themselves from equities and bonds and move into gold to keep the Fund positive. Do you want to do the same with your retirement? We will show you how.

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