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How much gold should you currently be holding?

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How much gold should you currently be holding?

Gold is again closing on the 11-month high it hit in February as risk appetite deteriorates and World Gold Council data shown central bank demand at its highest since 1971.  

Pricing, which had climbed from a recent low of $1,173 in August last year, had weakened after hitting the resistance line at around $1,340 which has halted every rally since 2013, as more dovish policymakers prevailed and fears on trade wars and global growth fluctuated.

Very real concern about international recession risks – and for sterling investors, a rapidly growing risk of a bumpy Brexit – mean many are taking a renewed interest in gold’s potential as a portfolio hedge, however.

Ned Naylor-Leyland (pictured above), who manages the Merian Gold & Silver fund, said he expected underlying demand to continue to be bolstered by institutional purchasing, regardless of equity volatility.

‘Yes, central banks will purchase gold at the same quick rate as last year,’ he said. ‘The trend has been in place since quantitative easing (QE) started. The language of central banks has fallen in line with the trend towards greater purchase.

‘Non-US countries are walking away from petrodollars and gold is the most effective way of doing that because it is apolitical.’

Vincent Ropers, co-portfolio manager of the TB Wise Multi-Asset Growth fund, said: 'Conditions now seem ripe for gold to act as an efficient hedge against a market crash.

'One of the biggest drivers of gold prices are real interest rate expectations. Since the precious metal doesn’t pay a dividend or an interest, the opportunity cost of holding gold versus a yielding asset gets higher as interest rates rise. Conversely, if real interest rates fall, gold becomes incrementally more attractive.'

Gold would benefit from future interest rate cuts and keep its value if a market crash were to happen, Ropers added, allowing gold to have a place in the portfolio on its own merits than just as a hedge.

Factoring in its bearish outlook for global risk appetite, macroeconomic researchers at Capital Economics said they forecast bank buying to actually increase to at least 500 tonnes of gold this year.

This was an increase from 373 tonnes in 2018, with safe haven flows prompted by falling bond yields and equity volatility behind the rise.  

Others described the increasing divergence and volatility in monetary policy as a net negative for gold, pointing out that renewed dollar strength and changing inflationary expectations may be a stronger medium term driver of the gold price than equity fears.

A 'hedge against stupidity'

A return to the nominal inflation pressures which have characterised much of the last decade prompted Seven Investment Management (7IM) to drop gold from all but its most cautious portfolios last August, and even in those reduced exposure to just 2%.

Peter Sleep (pictured below), senior investment manager at 7IM, said gold could be ‘unpredictable’ and its value determined by volatile factors like the price of the dollar. He described the commodity as a ‘hedge against human stupidity’.

James Sullivan, fund manager and managing director of MitonOptimal, echoed Sleep’s scepticism, saying investors with gold in portfolios for diversification’s sake are resorting to a lazy solution.

He said: ‘People have to ask what they’re hedging against. They can’t just say it’s a diversifier. One of the deaths of active management is over diversification, which is hindering rather than aiding it. Simply having gold is a lazy solution. If we over-diversify, the returns will be benchmark-lite.’

Mining value

Sector bulls have pointed to corporate activity in the gold mining sector as a strong buy indicator for the price of gold as both raw material, and the price of those who earn their money by digging it out of the ground.  

‘A recent wave of mergers in the sector, driven by management teams’ recognition of the need to consolidate and act in forward thinking, sustainable fashion, should be positive for the sector, which looks set to gain from the current macro environment,’ said Naylor-Leyland.

In January, Newmont Mining Corporation and Goldcorp Inc combined in an all-stock transaction worth $10 billion (£7.6 billion), becoming the world’s largest gold company.

Barrick Gold and Randgold Resources joined forces at the end of last year to form Barrick. The firm began trading on the New York and Toronto stock exchanges this year with a market cap of around $23.75 billion.

Sullivan (pictured below) said that he had yet to see a compelling value case for sector equity, however.

‘The sector has struggled for exploration efficiency since ‘peak gold’ in the 1980s, and there is typically a 10-year lag between first discovery and commercial production. It is hazardous to try and price that second observation into the valuation of a mining company today,’ he said.

Sullivan believes the fact that they are historically cheap at present is perhaps more a symptom of the headwinds that remain. He said that mean reversion is unlikely in the short to medium term.

‘The recent spate of M&A within the mining sector is perhaps a symptom of the gold price trajectory in recent years,' Sullivan added.

The collapse of bullion between 2011 and 2015 meant many companies cut back on their exploration as their prices came under severe pressure.

Now with bullion off its lows, companies have struggled to replenish their reserves fast enough. M&A has become a fast track way to create efficiencies and develop critical mass; whether this leads to longer term value creation remains to be seen. I have my doubts.’  

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James Sullivan
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