PERSONAL FINANCE:Warren Buffett can't see the attraction of it and it crashed spectacularly during the last speculative rush in the 1980s – but gold is once again popular with investors
GOLD. MENTION this word to someone, tell them you’re thinking of investing in it, and you can expect one of two widely differing reactions: an evangelistic endorsement of the precious metal’s qualities as a safe haven, or a tirade against the stupidity of buying a lump of metal with little productive use. So which view is right?
A cornerstone of every sales pitch for gold is that it is a store of value. Sounds good, but anyone who bought gold in the late 1970s might find this assertion hard to swallow. After a speculative rush, the price of gold went into freefall from a peak of $850 (€643) per ounce in 1980 to $296 (€224) an ounce by June 1982.
Bullion brokers will argue it is unfair to focus on a particular point in time like the 1980 crash when assessing gold’s performance as an investment asset. However this crash was followed by a two-decade long bear market in which the price remained depressed and gold was widely written off as a “barbaric relic”.
In defence of gold, Mark O’Byrne, a director of precious metal Irish investment firm GoldCore, one of a small but growing number selling direct to the public, says it has performed well over a 40-year period, which he claims is the investment timeframe of the average investor.
In 2001, the yellow metal began emerging from the doldrums and it has been steadily regaining favour since then. According to a recent Deutsche Bank commodities special report, this nine-year bull market represents gold’s “most durable” rally, as historically gold rallies have lasted no longer than four years.
It is currently trading at a record nominal high of $1,385 (€1,051) per ounce, although when the price is adjusted for inflation it is quite a long way off the peak reached in 1980. What exactly is driving this upwards trajectory?
We have to remember that gold is an unusual asset. It is a commodity like silver, but industrial demand for it is lower than that of other precious metals. Although it has many of the qualities of a currency, and on foreign exchange markets it is traded as a form of currency, the US dropped the gold standard in 1971 and it is no longer used to back fiat currencies (that is, money declared by governments to be legal tender, such as the dollar or the euro).
Willem Buiter, a former professor at the London School of Economics and now chief economist at Citigroup, has said that gold has no intrinsic value, and its positive value is based on “nothing more than a set of self-confirming beliefs”.
Those in favour of investing in gold say its value is derived from its scarcity, yet the supply of gold exceeds the demand from industrial users and the jewellery trade. Instead, demand is increasingly being driven by investment – the hoarding of gold bars, investing in exchange-traded gold funds (investment funds that are traded like stocks) and so on.
In 2007, over 80 per cent of the demand for gold was for jewellery and industrial use, with less than 20 per cent coming from investors. By 2009, this had changed dramatically. Investment demand had risen to 43 per cent of the total. This raises the question as to whether speculation is a key driver of the gold rally.
However GoldCore’s O’Byrne says that the biggest buyers of gold are central banks, who are not speculative buyers and are looking to manage their monetary risk. Central banks were net sellers of gold for the past two decades, he says, but as fears have grown that the dollar will weaken as a result of quantitative easing, they have started buying gold again as a hedge.
European sovereign debt concerns are also contributing to the demand for gold, but he says the idea that investors are “piling into gold” is another misconception. “Today less than one per cent of assets internationally are allocated to gold,” he says. This compares to 26 per cent in 1980.
Until recently it was difficult for small retail investors to access gold, but a number of investment channels have now opened up. Gold certificates and exchange traded funds (ETFs) represent two of the more popular ways of incorporating gold into a personal investment portfolio. However ETFs have a number of disadvantages, not least of which is counterparty risk (for example, the firm selling the ETF might go bust). In the Irish market, GoldCore is an approved dealer for the Perth Mint Certificate Programme. Through GoldCore, investors can buy certificates backed by physical gold bullion which is stored in the vaults of Perth Mint in Australia.
This investment carries an entry charge of 3.9 per cent and an exit cost of 1 per c-ent, but no additional storage charge, so it’s structured for long-term investors.
The minimum investment through GoldCore was set at €8,000, but it recently lowered the bar with the introduction of its gold saver product, which allows individuals to invest as little as €150 a month for a 12-month period. “We’ve basically made gold accessible to the man on the street for the first time ever,” says O’Byrne. “It’s the first time that small investors and savers can buy gold on a regular basis.” And herein lies the problem: the increased availability of gold investment products to small investors increases the likelihood of a speculative bubble forming.
Websites such as US-based BullionVault.com allow people to buy gold online. The site allows people to buy in small quantities with 1 gram being the minimum amount - the site charges a commission of 0.8 per cent on transactions and 0.12 per cent storage.
Rory Gillen, co-founder of Merrion Capital stockbrokers and head of investrcentre.com, says that the gold market is currently showing no signs of the “irrational exuberance that is normally typified by rampant retail investor demand at the end ”.
Deutsche Bank believes gold prices will have to hit $1,455 (€1,104) per ounce before they are considered “extreme”, and $2,000 (€1,517) to represent a bubble. O’Byrne says it’s possible a bubble will form in the future, but hr believes prices have a long way to run before that happens. “The mom-and-pop investors haven’t come into it yet,” he says.
But isn’t that exactly who GoldCore is targeting with its regular saver product? Yes, but there is no rush on gold yet, he says, and it remains a very small market in Ireland compared to the amount invested in equities, or even prize bonds.
However, GoldCore has encountered a number of people turning up with tens of thousands of euro in cash with them, wanting to put it all in gold. GoldCore advises people to diversify their portoflio, and not to invest more than 5 to 10 per cent of their overall wealth in gold. If people exceed this level it is against their advice.
When considering any investment it’s always worth taking into account Warren Buffett’s view. He says gold “gets dug out of the ground in Africa, or someplace. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from Mars would be scratching their head.” O’Byrne says that he has the height of respect for Buffett, but that this view is overly simplistic. Others have dismissed Buffett’s anti-gold stance on the grounds that he is an equities person. He also happens to be third richest man in the world.
Whatever your view, remember that when taxi drivers start telling you how much money they’re going to make from gold, when your friends start quoting bullion spot prices, and articles on gold become more frequent, then you’ll know there’s a bubble. And we all know how those end.
