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History shows bull market in gold after rate hikes: boon or bane?
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doctorpot1 joined discussion · Jan 29, 2023 21:14

[Modern Portfolio Theory Review] Gold helps to create better portfolio returns

TLDR: On 21 Nov 2022, 4 portfolios with different percentage of $SPDR S&P 500 ETF(SPY.US)$, $Invesco QQQ Trust(QQQ.US)$ and $SPDR Gold ETF(GLD.US)$ were created to test out Modern Portfolio Theory (MPT). The most optimal portfolio of 40% Gold, and 60% QQQ that was recommended by MPT had the highest return of 7.21%. The portfolio that only invest in $SPDR S&P 500 ETF(SPY.US)$ have returned 3.37%. The lower risk portfolio, which consist of SPY, QQQ and Gold had a higher return of 6.75%, while the higher risk portfolio of 80:20 allocation to QQQ and Gold have returned 6.09%. Gold still have a role in our portfolio.
Story time
In an earlier post, I talked about Modern Portfolio theory which is a statistical technique to help us optimise our returns by using a combination of asset class.
doctorpot1: Explained Simply: Modern Portfolio Theory, Optimising Risk and Reward of your portfolio
Many Youtubers and even Warren Buffett had been asking us to just buy $SPDR S&P 500 ETF(SPY.US)$, but according to the Modern Portfolio Theory (MPT), this isn't the most optimal. By adding Gold and QQQ into our portfolio can greatly reduce risk, or increase reward or both. Looking at the Efficient Frontier we can see the allocation we should hold to acheive each cases.
[Modern Portfolio Theory Review] Gold helps to create better portfolio returns
By adding 13.63% of $Invesco QQQ Trust(QQQ.US)$ and 43.22% of $SPDR Gold ETF(GLD.US)$ to the mix, you could get the same expected returns of 9.63% but with risk lowered by about 3%. Or if you want the same level of risk but a higher reward, it suggest that you ignore S&P500 and for just go for about an 80:20 ratio for $Invesco QQQ Trust(QQQ.US)$ and $SPDR Gold ETF(GLD.US)$ to get a whooping 12.37% returns for the same risk. It also suggest that the best allocation is about a 60:40 ratio for $Invesco QQQ Trust(QQQ.US)$ and $SPDR Gold ETF(GLD.US)$ which is expected to give us a higher return of 11.41% with a lower risk of 13.24%.
Conclusion: Checking the test result
To test out Modern Portfolio Theory (MPT) and track their effectiveness, 4 portfolios with different percentage of $SPDR S&P 500 ETF(SPY.US)$, $Invesco QQQ Trust(QQQ.US)$ and $SPDR Gold ETF(GLD.US)$ were created on 21 Nov 2022. Now let's review the results.
Had we just invest only in SPY, our portfolio will have returned us 3.37% till date. However, according to MPT, this is inefficient as we are taking on more risk for lower reward. Had we used the most optimal portfolio of 40% Gold, and 60% QQQ that was recommended by MPT, we would have gotten a return of 7.21%. This is more than double the return of the base case. Even the lower risk portfolio, which consist of SPY, QQQ and Gold had a higher return of 6.75%, while the higher risk portfolio of 80:20 allocation to QQQ and Gold have returned 6.09%. If we were to look at the portfolio movement, we can also also see that the optimal case and lower risk case is way less volatile as compared to the base case and higher return case.
This test had only gone on 2 months, so let's review it again in a few month later to see how it goes
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doctorpot1
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crawled out of poverty, working towards FIRE!! (financial independence, retired early)
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