Recent events have reinforced gold’s traditional role as a safe haven at a time of volatile markets, while trading gold on the ETF markets has surged. But talk of a gold price bubble looks way off the mark.
The strong growth in gold prices has boosted demand for gold ETFs, though this has been at the expense of gold equity shares, which have underperformed over the past decade.
In current market conditions, says Winnifrith, “the weakness of gold stocks (relative to the gold price) presents a buying opportunity. And that is what we are doing.
“I am confident this strategy will pay handsome rewards and, on that basis, bought more units in the SF t1ps Smaller Companies gold fund myself just the other day.”
For investors, such as himself, investing in gold through equity shares, the reduced performance earlier this year is put down to technical issues, he adds.
Firstly, companies, such as gold mining firms, took advantage of a $1,500 price to issue shares.
Secondly, the oil price moved higher. For gold producers oil is usually the biggest cost of production, and any rise in the price hits margins.
Oil has seen some stabilisation thanks to the Arab Spring and to fears over output from producers such as Libya.
The margin improvement is also linked to operational gearing, which in effect means that profits actually accelerate faster than the price of gold improves relative to oil.
And still, gold equities look fundamentally cheap, Winnifrith says. The cash being thrown off by gold company activities means there is growing M&A activity.
By focusing on mid-sized companies, the fund can gain not only from the ongoing profitability of its existing holdings, but also the tendency for large companies to overpay at this point in the cycle when making acquisitions.
If share prices on existing holdings fall, and the fundamentals continue to stack up, the fund will not shy away from buying more, says Winnifrith.
He sees three potential scenarios for gold investors going forwards. First, the idea of a gold price bubble could be proved correct.
However, this would require a ‘Goldilocks’ global economic recovery, including a big improvement in employment without inflation in the UK.
The second option sees economic growth remaining turgid, inflationary pressures on the increase and little or no growth in the West.
In that scenario governments will keep printing money, Winnifrith says, while real interest rates remain negative. At that point, gold will continue to outperform.
The third option would see the world continuing as before, in which case gold would simply track the market.
Lauren Romeo, lead manager on the $498.33m Dublin-domiciled Legg Mason Royce Smaller Companies Fund, remains bullish on the long-term prospects for gold and other precious metals. Nor is she fazed by pullbacks in share prices.
“While the price of gold recently surpassed the $1,500 mark and silver hit a 31-year high, both fell back in the aftermath of a large oil sell-off caused by weak economic data out of the US and Germany.”
Romeo has been a long-term holder of the asset class and maintains the case for holding it. “It is never surprising to see, after the steep rise that we’ve had in gold and silver prices, some sort of consolidation of those gains or a pullback,” she says.
Despite this volatility, the fundamental case for gold and precious metals does not change. Angelos Damaskos, chief executive of Sector Investment Managers and fund adviser of the Junior Gold Fund, says:
“The weakness of gold and silver mining equities since the middle of February is somewhat puzzling.”
As he explains, the price of gold is only 3.5% off its all-time high of $1,578/oz. Yet gold mining equities have fallen between 15% and 20% from recent highs. Winnifrith believes it can reach $2,000/oz in 2012, and possibly go even higher.
“This mismatch doesn’t seem justified,” says Damaskos. It indicates that either the stock market is discounting a significant fall in gold prices, or that investors are currently taking profits on commodities producers across the board.
“This could be a good buying opportunity as debt problems of the developed world are unlikely to be solved easily.”
Gold should remain one of the preferred stores of value and could reach $1,600 before the year end.
Damaskos says: “The fundamentals supporting higher commodity prices remain intact and, save for a major catastrophe, patient investors should be rewarded.”
Patient or not, investors such as the central banks do not have many options.