Why gold and cryptocurrencies are not “inflation-proof” investments

Gold and cryptocurrencies are often lumped together as inflation-proof investments, but with prices rising at the fastest pace in decades, neither asset has performed well amid rising inflation in 2022.

Bitcoin, the world’s most popular digital coin, is down nearly 71% from its all-time high of $65,000 in November, September 23. And gold prices were also down nearly 20% as of Friday, from their most recent peak in March.

Cryptocurrencies are often referred to as “digital gold” since, like gold, they are speculative investments that can theoretically be used as currency.

In addition, the supply of gold and cryptocurrencies such as bitcoin is much more limited than the US dollar, which can easily be increased by the Federal Reserve. In theory, such scarcity should make these assets more resilient to rising inflation.

But with prices rising at the fastest pace in decades, that hasn’t been the case.

Cryptocurrency prices took a beating earlier this year, after the Federal Reserve began raising interest rates to fight inflation. The price of bitcoin has fallen to nearly a third of its early pandemic peak and was just above $18,000 as of September 23.

“I think the rise in crypto before this year was due to the extremely low interest rates, which made risky assets attractive,” says David Haas, a certified financial planner (CFP) at Cereus Financial Advisors.

“People can borrow at little or no interest and invest in crypto and other assets. When interest rates rise, this liquidity disappears and suddenly the demand for [these] assets disappear.”

Haas says the value of these assets can stabilize and improve later in a recession, when the Fed either lowers or stops raising interest rates.

Despite gold’s long history as a scarce commodity, gold prices have fallen to $1,645 as of September 23, well off a peak of $2,069 in March.

And historically, gold has a mixed track record as a hedge against inflation.

“Gold appears to protect purchasing power over a long period of time — say 100-plus years — but offers very little protection against inflation in the short term,” says Kevin Lum, a CFP and founder of Foundry Financial.

A big factor in gold’s performance has been the strength of the US dollar, which hit a two-decade high this week. With the economic slowdown in China and Europe, investors have flocked to the dollar, which is considered a safe haven in times of global economic uncertainty. However, gold investments tend not to perform well when the dollar is strong.

Asked why gold has a reputation as an inflation hedge, Lum says recent bias may be a factor.

“Between 1972 and 1980, gold went from $38 an ounce to over $600. For anyone who lived through that period in history, you will forever be convinced that gold is the ultimate hedge against inflation.”

Gold prices during that time were the result of an asset bubble linked to the end of the gold standard in the US, he says. Since then, gold has proven to be an unreliable hedge against inflation.

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