Gold, Again, Becomes a Shield Against the Unknown
By CONRAD DE AENLLE Published: September 23, 2007
supposed to be a destination for scared money, but as the
credit crunch intensified last month, this presumed haven
lost value along with many other assets. Only after the worst
of the crisis had passed did traders return to gold, sending
its price sharply higher.
The metal has gained about $80 an ounce, or
12 percent, since mid-August, around the time the stock market
reached a trough. While share prices have since had ups and
downs, gold's ascent has been nearly uninterrupted.
heralds further gains for physical gold and for shares
of mining companies, many analysts and fund managers
predict. They offer a variety of reasons, ranging from
a desire to hedge against a falling dollar, a weaker
economy or geopolitical instability, to a conventional,
Econ 101 imbalance of supply and demand.
The bullish consensus, and the abundance of factors
invoked in reaching it, result from an oddity of the
gold market: it thrives on uncertainty, and investors,
even authorities on commodities, are uncertain what
makes it tick.
“What is unsatisfying about gold
is that there is no single easy explanation for why
it moves either up or down,” said Fred Sturm,
manager of the Ivy Global Natural Resources fund. “There
are a number of elements that impact the price direction.”
Stuart Schweitzer, global market strategist at JPMorgan Private
Bank, is another who finds gold a head-scratcher.
“If there’s a rule where gold is concerned, it’s
that it doesn’t trade predictably,” he said.
That was the case last month, when gold failed to rise along
with anxiety about the availability of credit, as might have
been expected. Instead, it fell about $50 an ounce from late
July to mid-August, a result of selling by hedge fund managers.
Gold is an asset coveted as a hedge against risk, but these
mostly unregulated and highly leveraged funds acquired large
positions, using the substance as a tool for speculation.
When other markets on which they had made big bets turned
bad — subprime mortgages, for instance — the funds
were forced to sell gold, among other holdings, to raise cash.
“There has been a lot more leveraged money in gold
over the past few years, compared to history,” Tony
Lesiak, a gold analyst for UBS, said in a note to the bank’s
clients. “So when we get financial market risk aversion,
the same investors who are cutting long equity, long credit
and long emerging-market positions also cut back on gold.”
Now that hedge fund selling has abated, a serious impediment
to higher gold prices has been removed, advisers contend.
Another reason to expect further gains, even with gold now
at $731.50 an ounce, close to its highest price since 1980,
they say, is that little further supply is likely to come
to the market.
Central banks, mainly in Western Europe, have been selling
gold from their reserves as they diversify into other assets,
and are thought to be nearly done with those sales. Supplies
from mines rose a mere 3 percent last year, while another
usual source of supply, scrap, fell 27 percent.
There is plenty of demand, meanwhile, from the flourishing
middle classes in China and India and, says John Hathaway,
manager of the Tocqueville Gold fund, from central banks in
countries that have enjoyed gains from foreign trade, like
Russia, the Persian Gulf states and, again, China.
Then there is the risk-aversion play. Hedge fund sales masked
demand that might have arisen in the subprime crisis, but
analysts expect a demonstrable resumption of flights to safety
if the dollar keeps falling, credit conditions worsen, political
hot spots ignite or if some other bad event occurs that they
can’t yet envision.
Gold is “an asset that people want to own as protection
for risks they can’t really analyze and get their arms
around,” said Mr. Schweitzer at JPMorgan. “That
risk has gone up.”
If investors buy the arguments for gold, they must then decide
how to buy access to it. They can acquire the physical metal,
but that entails costs for storage to guard against theft
and the hidden cost of holding an asset that does not pay
interest or dividends.
A way to mitigate the first expense is to buy an exchange-traded
fund like the StreetTracks Gold Trust, the largest of several
E.T.F.’s on the New York Stock Exchange that hold bullion
in quantity so that storage costs are spread thin.
The main alternative to physical gold is shares of mining
companies. They have failed to keep pace with bullion over
the last year, and fund managers and analysts have no trouble
explaining why. As Mr. Sturm summarized it, gold mining “is
a pretty lousy business.”
The costs of energy and the chemicals used in mining tend
to rise along with the metal, so company profits are prone
to rise more slowly than the price of gold, he noted. That
makes gold one of the less-rewarding substances to produce
during a commodities boom.
“Very few gold producers are beating their chests,
bragging about how much free cash they’re generating,”
Mr. Sturm said.
Though he finds gold mining “a tough gig,” his
expectation of higher gold prices and lower input costs has
led him to increase holdings of mining stocks. He tends to
favor companies with mines in politically stable countries
and with enough ore in their reserves that it would take a
decade or more to extract it all.
His favorite example is Gold Fields in South Africa. Its
stock became very cheap, in his view, as its price fell from
$26 in the spring of 2006 to $14 last month as the price of
bullion showed little net change.
Mr. Sturm’s eclectic list of choices includes Agnico-Eagle
Mines, a smaller Canadian company that he expects “will
probably have some brand-spanking-new gold reserves coming
at a time of rising prices.” For investors interested
in mixing their metals, he likes Impala Platinum in South
Africa and Silver Wheaton, an American company that provides
financing for silver mines around the world in exchange for
interest and royalty payments.
Echoing Mr. Sturm’s thinking, Mr. Lesiak at UBS has
buy ratings on Agnico-Eagle and another Canadian company,
Goldcorp, in part because the bulk of their revenue is generated
in placid locales. John Hill, a gold analyst at Citigroup,
advises buying Barrick Gold and Newmont Mining.
Mr. Hathaway of Tocqueville Gold also counts Goldcorp and
Gold Fields among his selections. Others include Ivanhoe Mines,
a Canadian company developing a large mine in Mongolia, and
Randgold Resources, which he said is “run by a very
smart group of people in West Africa.”
But he sees many mining companies as poor investments. “Their
main product is going up in price, and they can’t transfer
it to the bottom line,” he said.
He said he was “beginning to see signs of intelligence”
from a variety of companies on allocating capital, and predicted
that profit margins “should come out of this funk they’ve
been in.” That may make it more worthwhile to own the
stocks than the metal now, but he stressed that investors
should buy mining shares in spite of what happens in the boardroom,
not because of it.
“There is only one reason to buy gold stocks, and that’s
because you think the gold price is going up,” he said.
“It’s not a growth industry.”