Gold may be an imperfect hedge for volatile markets, but when it works, it really works. The problem is that when interest in gold spikes, it tends to mark the end of its bull run – are investors too late?
- The gold price is up over 30% since March as the crisis has taken hold.
- Fear is part of the reason for the rise in price, but the real picture is more nuanced.
- There may still be upside even if investors have missed the early part of the bull run.
It has been a bumper quarter for global dividend payouts. According to the Janus Henderson Global Dividend index, headline dividends reached $500bn (£387bn) in the quarter to June, up almost 13% on the same quarter last year with France, Japan and the US the hot spots. Asia-Pacific companies also saw a chunky rise, around 30%, boosted by large special dividends in Hong Kong and Singapore.
Certainly, fear is part of the reason for the rise in price, but the real picture is more nuanced. Gold is effectively a currency: vast government borrowing has depreciated the value of other, paper currencies and raised the price of gold. As governments try to keep their economies growing, many investors have concluded that they will continue to print money for as long as it takes. The popularity of gold reflects the desire of investors to protect themselves against currency depreciation.
There is also the consideration that the opportunity cost of gold diminishes when bond yields are low. Gold does not pay an income, so has a natural lag when interest rates are high. Equally, it tends to be seen as a hedge against inflation because it increases in value as the purchasing power of the Dollar declines. While inflation is benign today, many believe it could re-enter the system given the vast spending plans from global governments.
But is gold a buy today? Cross Border Capital believes the gold price can go higher given the current stock of US debt and the relative level of the dollar. It puts a fair value on gold of around US$2,500/oz (compared to just under US$2,500/oz today). All the conditions are in place for continued strength – fear, monetary easing, a weak Dollar – even if investors have missed a significant part of the bull run.
Gold shares may be an option. Shares in many of the major gold mining companies have yet to reflect the high gold price. When the gold price last saw a spike in 2011, gold companies didn’t benefit significantly because there was significant cost inflation (caused by labour shortages, unfavourable currency swings and higher extraction costs). This time, costs for gold mining companies are under tight control, so companies should benefit.
That said, the recent rally in gold proves that gold rallies often come out of nowhere. For gold to be a good insurance policy, it needs to be held through the cycle. If investors try to buy insurance when the roof has already fallen in, it tends to be more expensive.