It was recently reported that a man in the United Kingdom sold all his investments and bought almost $2 million in gold bars and buried them in his backyard. He had lost faith in the market and with some major risk catalysts looming, many would sympathise with his doomsday outlook. In 2016 gold has been a standout performer but more than the metal itself, investing in the companies that dig it up has delivered the most glittering prize.
The gold price peaked above US$1,300 per ounce in June and now appears to be in the early stages of a new bull market. While the gold price has increased 20 per cent this year, it still remains 30 per cent below the US$1,900 high of 2011. While gold has risen 19% this year, the NYSE Arca Gold Miners Index which includes the largest and most liquid global gold mining companies, has risen 85% (Source: Bloomberg, Figures in Australian dollars, calendar year to 22 June 2016).
A higher gold price largely correlates to investors’ increasing unease about a weakening global financial system. Investors are realising that central bank policies lack efficacy and have run their course without accomplishing their intended results. Central banks appear to be running out of options to stimulate economies.
More recently, the gold price has moved to the beat of the US Federal Reserve’s rate hike signal as investors continue to anticipate the timing of a rate increase sometime this year. Disappointing economic data also continues to fuel uncertainty and support a shift to gold as a safe haven asset.
As a result of these factors, the gold price has been consolidating in the US$1,200 to US$1,300 per ounce range since early March but it now appears likely to remain above the technically and psychologically important US$1,200 per ounce level and is poised to enter a new prolonged bull market as the year progresses.
Many investors invest in gold by buying gold bars but we don’t suggest buying and burying these in your backyard or storing them in a bank vault for that matter. The costs of storing and insuring gold eats away at returns from the metal.
Savvy investors prefer to purchase gold miners’ equities as their value historically rises more when the gold price rises. In addition, gold miners’ shares pay dividends instead of incurring holding costs. This year we have seen gold equities rise by a factor of more than four (85%) compared to the 19% rise in the gold price.
Another factor contributing to this year’s spectacular rally by the gold miners is that gold mining businesses are in a much better position than they were a few years ago. They have successfully slashed costs, cut debt, gained efficiencies and generated cash.
Gold companies are shifting their focus towards growth and profitability and valuations are still at historical lows, so there remain opportunities to buy assets. Exploration spending, which has been significantly reduced over the last couple of years is picking up, allowing companies to add resources and reserves and increase their chances of making new discoveries. In addition, projects that have been shelved will likely be revisited as increased cashflow and cheaper financing becomes available. Firms generally remain committed to growing profitability and returns rather than production.
Australian investors can participate in the anticipated gold bull run by investing in a Gold Miners ETF that tracks the NYSE Arca Gold Miners Index.
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