CommoditiesOct 23 2018

Have gold funds lost their shine?

twitter-iconfacebook-iconlinkedin-iconmail-iconprint-icon
Search supported by
Have gold funds lost their shine?

Gold is typically classified as a commodity, but it also displays currency-like characteristics and is commonly referred to as a safe-haven asset. This status has been called into question in recent years, however. 

It has been a torrid time for gold and the funds offering exposure to it, with most having lost money over the past half decade.

Many gold investors would have expected bullion to perform better in what has been a period of heightened geopolitical risks, or at least to have justified its role as a diversifier in portfolios. But this simply has not happened.

The World Gold Council notes the commodity’s price lost 3 per cent during the first half of August 2018 alone, dropping below $1,200 an ounce.

Gold’s relationship with the US dollar goes some way to explaining this period of poor performance. When the dollar strengthens – as it has done against other developed and emerging market currencies for much of this year, and between 2014 and 2016 in particular – the price of the yellow metal suffers.

The escalation of trade tensions between the US and China has helped boost the dollar in 2018, while the Chinese renminbi has declined. But there is an argument that when this happens, many Chinese investors turn to gold as a store of value, suggesting something of a natural equilibrium for the precious metal. 

On top of this, bullion may yet find itself back in favour among investors and fund buyers as a hedge against inflation. Inflationary pressures have been building over the past couple of years, as central banks around the world initiate the normalisation of monetary policy following years of quantitative easing. But does gold truly come into its own during periods of inflation? 

Hedging capabilities

Asset manager Unigestion looked back at the historical returns of gold between 1974 and 2017, and found it delivered, on average, returns of 10 per cent during inflationary periods, while during times of recession it “returned the same performance as bonds”. This suggests that whether investors are worried about recession risk or inflation shock risk, gold has hedging capabilities.

The performance of the metal is also strongly tied to the appetite for gold jewellery in China and India, as both countries account for more than 50 per cent of current global demand. The transfer of wealth in these emerging market economies indicates there could be pent-up demand for the precious metal. 

But this will be of little consolation to those UK investors who have had exposure to gold over the past few years, either via gold miners held in an active fund, or the physical commodity itself as tracked by exchanged-traded passive vehicles.

Some investors appear to have given up hope on the asset for now. Ben Seager-Scott, chief investment strategist at Tilney Group, does not believe gold is a safe haven, and in fact argues it “lacks intrinsic value and is primarily valued extrinsically for its finite supply”. However, he acknowledges it can sometimes be useful as a store of wealth.

Mr Seager-Scott says Tilney initiated positions in physical gold in 2015 when core fixed income looked very expensive across the board and central banks were experimenting with monetary policy. He notes that while it has “served us well”, the company has been reducing these positions on the basis the outlook for gold is deteriorating, while turning to the likes of short-dated, US inflation-linked bonds as an alternative.

Similarly, in August another wealth manager, 7IM, announced it had dropped gold from all but its most cautious multi-asset portfolios, replacing the metal with general commodities exposure.

Performance

For those who have backed the metal, the two distinct ways of doing so – either through physical gold, or by investing in gold miners as most active funds do – have produced varying returns.

Table 1 shows the top 10 active gold funds with five-year track records to August 31 2018, alongside the FTSE Gold Mines index as a benchmark.

According to FTSE Russell, the company’s Gold Mines index “encompasses all gold mining companies that have a sustainable, attributable gold production of at least 300,000 ounces a year, and that derive 51 per cent or more of their revenue from mined gold”. 

The index’s largest geographical exposure is to Canada with a 48.7 per cent weighting, followed by Australia, which accounts for 18.7 per cent, and then the US at 16.3 per cent. US-based Newmont Mining is the biggest constituent, making up 15.3 per cent of the index.

The table also includes performance data for two ETFs, focusing on physical gold and silver, respectively, for comparison. As the table shows, funds with exposure to gold miners have suffered far steeper falls than the ETF invested in physical gold. The Ruffer Gold fund has returned £1,075 on an initial £1,000 investment over the past five years, making it the best cumulative performer of the active gold funds over that period. 

Ruffer Gold also delivered the best cumulative performance over three years to the end of August, having returned £1,720 on £1,000 invested. Its biggest regional weighting is to North America, which accounted for 41.2 per cent of the portfolio at the end of August – many of the world’s biggest gold miners are based in Canada. The fund’s largest position is a 6.5 per cent allocation to Canadian firm Kinross Gold.

Discrete returns show the iShares Physical Gold ETF has been less volatile than many other funds in the table, underlining the fact that gold miners tend to suffer more severely when the precious metal is out of favour. The fund fell 9.4 per cent over the year to August 31 2018, a time when the majority of the active gold funds were down more than 20 per cent. The FTSE Gold Mines index fell 27 per cent in the period.

The counterpoint is that the physical gold product has lagged others at times when gold exposure has paid off. 

Mr Seager-Scott adds: “Physical gold gives you the purest exposure to the asset and gives you greater diversification benefits within a portfolio. Gold miners, by contrast, offer more leveraged exposure to a rising gold price, but provide less diversification in a market rout as they tend to behave more like equities than gold commodity.”

The worst 12-month period for many of the funds invested in gold miners was 2014-15. Closed-ended investment company New City Golden Prospect Precious Metals lost 52 per cent over the period, while iShares Physical Gold was down just 4.9 per cent.

Other precious metals have had an even worse time. The physical silver ETF included in the analysis has fared much worse than its gold-focused counterpart over five years, turning a £1,000 investment into just £795. Over this period, the fund lost an average of 4.5 per cent each year.

Investors who believe general market volatility is likely to increase in the next few years may see an opportunity to buy into gold funds and heavily discounted investment trusts now, or to add to their gold exposure. But for many, the lower price signals the start of a longer-term stagnation, or even further declines.

Ellie Duncan is features editor at FTAdviser.com and Financial Adviser

 

Gold funds – Five questions to ask

1. Do gold funds have their own peer group?

No. Gold funds, like many other niche products, tend to be found in the Investment Association's Specialist sector. Funds operating in related areas, such as natural resources, are often found here too.

2. What benchmarks do these funds use?

This tends to vary from fund to fund to reflect a manager's investment universe. Both Ruffer Gold and BlackRock Gold & General refer to the FTSE Gold Mines index, for example, while Investec Global Gold uses NYSE Arca Gold Miners. The benchmark will also vary depending on whether a fund focuses on physical gold or shares in miners.

3. Do these funds focus exclusively on gold?

Some, such as Ruffer's fund, do, but many of the funds can buy other precious metals or resources. BlackRock's fund has small amounts in silver, diamonds, copper and industrial minerals. The Charteris fund has nearly two-thirds of its assets allocated to silver.

4. How expensive are active gold funds?

Several of these funds list an ongoing charges figure of more than 1 per cent, but others are somewhat cheaper. Investec's fund has an ongoing charge of 0.89 per cent, while Smith & Williamson charges 0.71 per cent.

5. Are there any investment trusts that offer exposure to gold?

Yes, but these tend to have a broader remit than gold investment. This includes trusts that focus on precious metals, mining, commodities and natural resources. Some products with an even broader remit, such as the the multi-asset Ruffer Investment Trust, use gold.