Buy gold: The original and best bitcoin

15/02/2018 13:42:11

Max King

MoneyWeek

The speculative mania for bitcoin in 2017 shows the enduring desire for a currency that is outside the control of governments. The inflation of past decades may have abated, but the regulation of bank accounts is greater than ever. Whether bitcoin fulfils the functions of a currency remains to be seen, but gold has been preserving purchasing power for thousands of years. Moreover, it provides the physical reassurance of ownership that cryptocurrencies cannot.

Yet while the bitcoin price has soared, the gold price has been trading sideways at around $1,300 an ounce, well below the $1,800-plus reached in 2011. Over the longer term, the story is better. For the 40 years until 1971, when the link with the dollar was broken, the gold price was pegged at $35. It then soared to $800 in 1980 and sank below $300 in the late 1990s, before multiplying more than five-fold to its 2011 peak.

It’s all about supply and demand

The World Gold Council estimates that 187,000 tonnes of gold has been mined throughout history, two-thirds of it since 1950. Since gold is indestructible, almost all of this is still around – though a recent UN report estimated that $22.3bn-worth is discarded every year in 45 million old electrical and electronic devices, with only 20% being recycled. Mine production adds to supply at the rate of about 3,200 tonnes a year, a rate that has doubled since the early 1980s. However, since 1995, new discoveries have been falling, which makes current production unsustainable.

As the gold price rises, production responds slowly, but investment demand picks up quickly, while jewellery demand tails off and scrappage increases. Over the medium to short term, this makes forecasting the gold price little better than guesswork. Prices can soar, as they did in 1980 and 2011, for no particularly good reason, or stagnate, as they did in 2013-17, when near-zero interest rates should have tempted buyers.

A turnaround for miners

Stagnant prices came as a shock to gold miners, which had increased output rapidly, embarked on increasingly ambitious projects and then failed to control costs. Since then, the industry has shaken up its management, abandoned uneconomic projects, curbed exploration and cut costs, says Evy Hambro, manager of the £1bn BlackRock Gold & General Fund. This leaves gold equities “trading at attractive free-cash-flow multiples with the potential to compound the returns from any rise in the gold price”. In the five years to September 30, Hambro’s fund lost 30% overall, while the FTSE Gold Mines index lost 45%.

Moreover, like the index it lost money in four of those years, before more than doubling in the fifth. This record of returns has not come from speculative investment; Hambro focuses the portfolio – more than half of which is in the top ten holdings – on the largest, best-managed and best-financed companies in the industry.

This is no fund for the faint-hearted. But those who fear that indefinite quantitative easing will end badly, yet who have no wish to join the cryptocurrency frenzy, may be tempted. Gold and gold-mining equities tend to perform well when most other investments are performing badly, so locking some of your money away in the BlackRock fund for more turbulent times makes sense. The real pessimists can buy gold sovereigns.

MoneyWeek