One thing I’ve learned in thirty years following financial markets: the panic button is gold-plated.
Fear sends investors scurrying towards safe havens, and the most fearful head for gold. In recent weeks the gold price has hit $730 an ounce and is heading towards the recent (2006) high of $750, with the all-time high of $850 firmly in the gold bugs’ sights.
I’ve joined the gold bugs and believe you should too, because there are now simple, low-cost ways of getting a stake.
Got a lump sum to invest? Take advice here Fear is the key… the cause doesn’t matter much
It doesn’t actually matter much what people are afraid of: when they’re afraid they buy gold. When inflation was a worry, people said it was logical for people to buy gold if they were afraid of the ‘devaluation’ of money by inflation.
In the recent credit crunch, they said it was logical for people to buy gold rather than put their money in banks that they feared might go bust. Fears of a SARS epidemic (remember that?), nuclear war, Middle East war, hyperinflation or depression: each has been used to make a case for gold.
Worried about Inheritance tax? Take advice here It’s the dollar, stupidIn practice, one of the most powerful drivers of the gold price is the exchange rate of the US dollar. When the US dollar falls in value, the gold price almost always rises.
The dollar is now down to $2.04 to the £, and the Federal Reserve’s declared willingness to cut interest rates sharply to stave off a recession means people can expect to earn less interest on their dollar deposits over the next year.
That gives them a strong incentive to go on selling dollars, and almost all currency analysts expect dollar weakness to persist. That alone gives gold some momentum.
Interested in SIPPs? Find out more here The gold market operates rather strangelyThen we have the supply/demand position. This is slightly weird, in that the central banks hold, in the form of bullion, scores of times the actual annual demand for gold for use in industry and jewellery.
In recent years, central banks have sold enough gold to make up an annual shortfall of about a third between end-demand and newly mined supply. But European sales are being cut (Gordon Brown sold off most of the UK’s gold several years ago at under half the present price) and the Chinese and Middle East nations are buyers.
Unlike, say, copper, therefore, the price of gold is driven by investment demand rather than industrial demand, especially if- as I think you should- you count jewellery demand in places like India and China as a form of investment, which is certainly how the local buyers see it.
Got a lump sum to invest? Take advice hereHigher prices pay for greater explorationUntil the price of gold started to rise in 2004, there was little incentive to explore for new sources, so while the pace of gold exploration has accelerated in the past three years, it will be several more years before this has any impact on actual new supply, and in the meantime, output from established South African and US mines is on a steady downward slope.
More and more of the newly mined gold comes from places like Russia and sub-Saharan Africa, so there’s more political instability in the supply. While all that is the bullish story, the truth is that if Uncle Sam ever decided to sell a lot of gold, he could drive the price down sharply.
Fort Knox contains enough gold to meet the rest of the world’s demands for many years. But given a weak US dollar, selling gold would be seen as a sign of national weakness that few American politicians would want to risk.
Worried about Inheritance tax? Take advice hereForget the physical stuff
Right-wing American gold bug newsletter editors advise their readers to buy physical gold bars or coins so that when doomsday arrives, they can head for the hills with rucksack full of life-saving gold.
This is a ludicrous fantasy (nobody could actually carry a rucksack full of gold, for a start) that I advise you to ignore. Gold is an investment. It happens to behave in a very different way from almost every other investment (it has ‘low correlation’), and this adds to its attractions for people who already own houses, bank deposits and shares.
It is simply stupid to buy gold in forms that attract VAT - which, in the UK, purchases of gold bullion do. Gold coins, like the most popular, the South African Krugerrand, can be bought privately without VAT, but the coins (the Kruger contains exactly an ounce, half, quarter or tenth of an ounce of gold) trade at premiums of 5-10% above their intrinsic gold value.
Interested in SIPPs? Find out more here
Buy gold on the stock market
Today, the simplest and cheapest way to buy gold is through a fund listed on the London Stock Exchange. What are called Exchange Traded Commodities (ETCs) are funds that hold gold bars and issue shares corresponding to these physical holdings.
The funds make an annual charge that includes the safe custody and insurance of the gold. In the case of ETF Securities, its Physical Gold ETC (PHAU) charges an annual 0.39%.
The fund’s shares are priced at tenth of an ounce of gold minus the relevant fraction of the annual charge. The fund has a custodian of the gold (HSBC) and any gold transactions also have to be approved by an independent third party; and there are the usual audit arrangements.
Worried about Inheritance tax? Take advice here
Cheap and easy way to play the precious metals markets
The attraction of this way of buying is that if you use an internet sharedealing account, you can play a flat fee of, say, £10 to buy whatever amount of gold you like. An ounce will cost you about £370. The ETC is priced in US$ but is dealt (settled) on the LSE in £.
ETF Securities also has ETCs in silver, platinum and palladium. Palladium (PHPD) is interesting, in that it is being more widely used as a gold substitute (the best white gold is an alloy of gold and palladium).
Up to 2000, palladium was more expensive than platinum; today, after a rip-roaring five-year bull market, platinum trades at $1200 per ounce but palladium has stayed pretty much static at $400. If current efforts to substitute it for platinum in catalytic converters are successful, palladium could have a big catch-up.
Got a lump sum to invest? Take advice here
Gold shares for the long haul
If the bull market in gold is going to run for years, as I suspect it will, then you are almost certain to make far more money from owning shares in gold mining companies than by owning gold itself.
Gold mines have relatively fixed costs of production so their profits soar if the price rises. Exploration companies that are in the process of establishing and mining reserves can be even more profitable if it turns out there’s more in their mine than they thought there was.
But picking individual gold mining shares is pretty much a lottery and I don’t advise you to join this particular game unless you habitually play poker or visit racetracks. Instead, invest in a share-investing fund run by a professional management team that spreads your money over a mix of established, gold-producing mines and more speculative gold exploration plays.
Worried about Inheritance tax? Take advice here
Spread your risk with an investment fund
The longest-established UK fund is BlackRock Merrill Lynch Gold & General. It has almost £1,000 million under management in a worldwide portfolio that is about 76% in gold and 17% in platinum (many mining groups produce both).
You can buy this fund through most internet sharedealing accounts or through the HL Vantage or FundsNetwork fund supermarkets. I hold it in my pension fund, and it can also be bought in self-select ISA or PEP accounts.
Don’t bet the ranch
Physical gold produces no income, and in the end, it’s psychology that drives its price. Unlike a company like Cadbury Schweppes or Rolls Royce, gold contributes little to human welfare.
Completely unexpected events and unexpected reactions to those events will cause its price to fluctuate in ways you will never anticipate. So while it is an investment, it’s one with its own bizarre set of risks. That means it shouldn’t account for a big slug of your investments: most advisers would say no more than 5%, many would say even less than that.
Now seems to me a good time to add a bit of gold to your investments.
Important risk warning - please read
The value of your investment and the income from it can go down as well as up and you may not get back a significant proportion of your investment. Past performance is not an indication of future performance. If you are in any doubt as to the suitability of an investment, you should seek independent financial advice.
