Gold Blog

The nonsense of hedging gold investments against currency risks

May 31, 2012

The following article explains, why the idea of hedging gold investments against fluctuations of the U.S. dollar is absurd.

Investors from other currency areas than the U.S. dollar are often advised to hedge their gold investments against fluctuations of the U.S. dollar. The argument for this is that gold would be traded in U.S. dollar and that therefore the price of gold would depend on the price of the U.S. dollar.

While the latter argument is of course true, it is nevertheless irrelevant for typical investors. The question that such an investor faces is not what the nominal price level of a gold investment in U.S. dollar is but instead what the real value of his gold investment is, i.e., what or how much he could buy with the equivalent of his gold holdings in his local currency.

Currency hedging for export products

The idea of hedging gold investments against currency fluctuations, e.g., devaluations, of the U.S. dollar probably derives from observations of export oriented industries. Let’s take car manufacturing as an example. If you assume that General Motors would produce its vehicles completely in the U.S. and source all its input factors in U.S. dollar currency, then of course for a non-U.S. / non-U.S. dollar car buyer, e.g. based in the euro area, fluctuations of the exchange rate of the U.S. dollar to the euro can impact the real price, which the car buyer has to pay.

If, for example, the U.S. dollar would appreciate in value compared to the euro – let’s assume by a factor of two – then theoretically GM would ask the European car buyer for twice the nominal price denominated in euro than before. For the European car buyer, the real price would have effectively doubled. As a consequence, the car sales in Europe would plummet very likely. That is the reason why manufacturers of goods, which are sold in other currencies bear a real currency risk.

Why it is different with gold

In the example given above, changing exchange rates have an impact on real prices and value. Why is this different for gold? First of all, only a part of the annual gold coming to the market is really produced, i.e. mined, in the respective year. There is a significant recycling and trading of existing stocks going on in the market, e.g. trading of bars and coins between investors and precious metals dealers.

Secondly, only a minority of the global gold is mined in the US. Actually it is less than 10% of the annual production of gold that comes from the US and is (at least in parts) produced in U.S. dollars, e.g., at U.S. dollar wage costs.

The vast majority of the annual supply of gold is produced in other currencies, “at other currency costs”. A depreciation/ appreciation of the U.S. dollar does effectively not impact gold production prices.

Most of the above-ground gold stocks were produced in previous years. Annually, global gold stocks increase by approximately less than 2%. Most of the mined gold was ‘produced’ in the past at costs of the past.

Why do many experts not understand or deny this?

Despite the arguments provided above, many journalists and financial advisors often cite the need to hedge your gold investments. Why is this so? The first reason is that also in non-U.S.-Dollar countries like Germany or the United Kingdom, the gold price is mostly stated in U.S.-Dollars and not in the respective local currencies. If the U.S. dollar now appreciates or depreciates in value, a change of the gold price denominated in U.S. dollar can be observed. But this doesn’t tell us anything about the value of gold (in the local or any other currency).

Quite the contrary: It is logical and inevitable, that the price of gold denominated in U.S. dollar would change in case of an appreciation or depreciation of the U.S. dollar. Let’s assume the amount of U.S. dollars would be doubled. In theory, this would imply that the real value of one U.S. dollar would halve. As a consequence, the nominal price in U.S. dollar of one ounce of gold would double.

Neither for a U.S. dollar investor nor for a euro or British pound investor anything in terms of the real value of one ounce of gold would have changed. For the U.S. dollar investor, the nominal price would have doubled, but in relation to other goods, gold would still have the same value, since effectively all prices would have doubled. For the euro or British pound investors, the price of gold denominated in their local currencies did not even change. The same applies to the real value of gold for those investors.

The second reason probably is that many “experts” have a profound interest in hedging gold investments: They can charge this to clients or they can develop more expensive ‘hedged’ gold investment products, e.g., so-called Quanto-Certificates or Quanto-ETC/Funds for retail investors.

Hedging gold creates a currency exposure

But the over-pricing isn’t the worst of it: Ironically, the ‘hedging’ of the U.S. dollar currency risk just on the opposite creates an exposure to the U.S. dollar for the investor. As argued above, a direct gold investment does not carry a currency risk. A product that ‘hedges’ against this non-existing currency risk effectively creates an – although inverse, i.e. negatively correlated, – exposure to the U.S. dollar currency.

This can lead to tragical results: euro investors, who recently bought a ‘hedged’ gold investment product, saw a real price decline of their investment due to the appreciation of the U.S. dollar. This appreciation of the U.S. dollar led effectively to a lower nominal price of gold in U.S. dollars. For ‘hedged’ investors, the real value of their investment is now effectively lower, too, – it corresponds to the nominal price of gold in U.S. dollar, which decreased.


The outlined arguments bring us to the conclusion that typical private investors do not need to and should not hedge gold investments against fluctuations of the US currency. In the end, a hedging would result in speculating with the price of the U.S. dollar. Certainly, investors can participate in such speculations, but this should be analyzed independently of making any investments into gold.

Of course, in the last example above, the price of the U.S. dollar could also devalue: in this case, ‘hedging’ a gold investment would have as its consequence that a euro investor would profit from the devaluation of the U.S. dollar in real terms.

But for most private investors, gold is a store of value and a protection against crises or very high inflation (in whatever currency). Those purposes are already served by a direct ‘non-hedged’ gold investment.

Simply put, gold is a real asset whose real value does not depend on any currency (except for the fact that a currency crisis can lead to higher demand for gold and thereby impact prices). That is one of the reasons why some proponents see gold as the ultimate currency and want to reintroduce gold-backed currencies, i.e. a gold standard. You don’t have to agree on that. Arguably, gold-backed currencies can also have disadvantages.

Nevertheless, journalists, investment companies and investors will hopefully in the future focus on the price developments of gold in their local currencies instead of the price in U.S. dollar and refrain from promoting ‘currency-hedged’ gold investments.

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