Over the past year gold has seen strong performance, and gold miners have particularly shone, especially in GBP terms.
Investors are rightly asking the question, is it too late to get gold exposure?
How does an investment in gold miners compare with a direct investment in gold? And finally, how can these assets be used in a portfolio?
It is tempting to dismiss gold’s recent moves as temporary – a reach for safe havens that could shift into reverse gear if global activity and risk sentiment rebound convincingly (though the timing and sustainability of this are far from certain).
There is merit to this argument, but focusing only on this risks missing the bigger picture.
First, gold is a store of value and its credentials justify a buy-and-hold approach for a long-term investor.
Consider that since 1973 gold has outstripped inflation in major economies, outperformed cash returns despite having no yield, and has delivered equity-like nominal returns. Looking back further, all currencies that have existed since the 1700s have devalued vs gold (and the majority did not survive at all).
Second, gold is today a beneficiary of several supportive drivers. Policymakers have embarked on a scale of coordinated fiscal and monetary easing that is unprecedented in peace time.
A much-needed medicine now, this heightens the risk of currency debasement and inflation down the line, particularly if combined with actions on other issues high on the political agenda such as income inequality.
In a world of negative real yields, a real asset yielding zero looks attractive.
Gold will also remain scarce, with new mining supply a small percentage of overall above-ground stock.
Gold miners are the higher-risk option and are very volatile. For a given percentage change in the gold price, expect gold miners to give an amplified reaction in both directions as these companies are operationally and financially geared.
Also, the level of sensitivity to gold prices is not a constant one, and will change over time with factors like the miners’ balance sheets and exploration plans.
In addition to simply giving leverage to the gold price, gold miners must be recognised for bringing a whole new set of risks. They will be sensitive to factors as varied as operational performance, management quality, foreign currencies and the oil price.
Historically speaking, the gold price is still the primary driver, particularly for a diversified allocation to gold miners – but the potential for other factors to creep in must be considered.
How can gold and gold miners be used in a portfolio? Physical gold has the almost unique potential (but not guarantee) to protect portfolios during both deflationary financial turmoil such as the one we have been experiencing and inflationary scenarios, such as the one that has been described.
It can be thought of as a buy-and-hold allocation in multi-asset portfolios, given these useful characteristics as well as a strong track record of preserving real value over the long run.
An allocation could be beneficial for portfolios that are overly concentrated in a single currency or currently only holding financial assets such as equities and bonds (with no real assets).
Holding gold alongside ‘value’ equities should also be considered as a pairing.
The latter would enjoy an environment of rising real yields, which in turn is one of the bigger near-term risks for the metal.
If investing in gold in this way, the preferred route would be through physically backed funds or exchange-traded commodities – in contrast to synthetic exposure.
Gold miners may be used in a similar way, but a smaller allocation should be considered.
This will help weather their greater volatility and the fact that their hedging properties may be less reliable in truly extreme environments.
This higher risk can also be advantageous, as a modest allocation can go a long way and means foregoing less in existing allocations.
Tigran Manukyan is an analyst at Fidelity International
