By William Meyer
In conversations with clients, the question, “What about gold?” is often raised. Unfortunately, this is a fascinating, but dangerous, “red herring” that shifts focus away from the serious business of investing.
The question is all the more interesting, though, as the gold price has fallen about 37% since peaking above $1 920 an ounce late in 2011. And is the current price of circa $1 200 a good entry point for investors?
John Maynard Keynes, the great economist, in 1924 referred to gold as a “barbarous relic” and the world has surely moved on since then. You may or you may not agree, but certainly in terms of market importance and size, the gold market is Mickey Mouse and completely dwarfed and over-shadowed by the currency and bond markets. Gold does have a certain portfolio value for diversification and as a hedge against inflation and times of extreme political uncertainty.
The gold price peaked in 1980 at $800, which, adjusted for inflation, is equivalent to more than $2 000 in today’s money. So for investors just to break even after 36 years, the gold price still has to jump by 70% overnight. In comparison, most stock markets are up by more than 500% over the same period.
Gold was worth $20 an ounce in 1800 and that equates to a 2% annual return, but what about the costs of storing and insuring this gold for more than 200 years.
Gold is not a growth stock or a bond. It has no income, no dividends, no interest and no earnings. Buying gold is pure speculation. It has value only because people believe it is valuable. It is a collective hallucination.
The history of the gold standard, gold’s role in central banks’ reserves, its low correlation with other commodity prices and its price behaviour in relation to other currency movements tends to suggest characteristics more attributable to that of a special currency than that of a commodity.
Gold as a currency is unique. It is not tied to any one economy or government and it is safer from political and economic instability than cash. Currencies are not investments in the true sense. Their role lies in diversification, hedging and risk management in relation to other cash flows and these markets are often best left to speculators and traders.
Investment, though, is the deployment today of capital in expectation of a return of profits, interest, dividends and/or capital in the future. A true investment has a fixed and determined entry point and cost, repetitive and continuous weekly, monthly or annual cash flows which provide increasing purchasing power, ie adjusted for inflation real returns and a forecast exit level. These cash flows can then be adjusted for risk and inflation, and a determination made as to whether or not it is a good investment opportunity.
In portfolio management everything depends on cash flows and, in heightened times of uncertainty, diversification and balance become the investors best friends.
Gold remains a fine store of value, an inflation hedge, an insurance premium for political uncertainty, a currency hedge and a portfolio diversifier, but it is not an investment, not by definition and not by nature.
● William Meyer is a qualified Chartered Accountant and Chartered Financial Analyst (USA). He has been CEO of Fenestra Asset Management since 1990.
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