Soros the conductor
It’s a great power to have as an investor when the market reacts to your every word. George Soros is one of those investors, and when he recently talked down gold as a bubble the market took note.
However, reading between the lines Soros actually sees the gold price rising significantly over the foreseeable future, and this was supported by him increasing his gold holdings after his comments, albeit at a new slightly lower price! Maybe the bubble will burst one day but not in the next few years at least.
So why was Soros right to increase his gold holdings and have you missed the boat with gold at record highs?
1. Performing as expected
The fact that gold is continuing to perform well is reassuring to investors. As the ultimate safe haven asset it should be performing well in the worst economic crisis in living history. If gold had fallen 30% in the past year I wouldn’t see this as a buying opportunity, I’d be worried why it wasn’t ‘doing what it says on the tin’.
2. Perfect global conditions for gold
If anything the global economic environment for gold investment is even stronger now than it was 2 years ago. We are continuing to see bank closures and restricted lending. This year has seen the shift from personal debt to Sovereign debt. Countries such as Greece, Spain, Portugal and Ireland are struggling to repay debts and the very existence of the Euro is under threat. As faith in traditional currencies diminishes, more investors are turning to gold as an alternative store of wealth.
3. Dealing with debt
You have to ask yourself the honest question – are we likely to see recovery any time soon? In the UK, where we have the instability of the first coalition Government since 1945, tax hikes and spending cuts will undoubtedly see a squeeze on disposable income. The abolition of child benefit for higher rate tax payers will hit the middle classes. The healing process is a slow one which is impossible without any pain. The interest on the UK’s debt alone amounts to £75b/year, more than we spend on defence and education combined.
4. Terror threat
Continued political unrest has uncovered terrorist threats targeting atrocities in the UK, France and Germany. North Korea has become a possible nuclear threat, and Middle Eastern tensions continue. It only takes one of these attempts of terror to succeed and equity markets around the world will plunge, sending gold higher.
5. No alternative
The alternatives to gold are poor right now. While many people like to hold their wealth in cash savings during economic downturns, the situation we find ourselves in means we receive far less in interest than the current inflation rate. A saver lucky to receive over 1% with their bank will find their money losing over 2% in value once inflation is considered. Many of these savers are now turning to gold so not all their liquid assets are held in Sterling, further supporting the gold price. Equity markets are unlikely to provide sustained returns with less money in consumers’ pockets to spend and they remain vulnerable to a double dip recession or terror attack. The risk of bonds not repaying capital (or even their coupon) has increased even with Sovereign debt bonds.
There remains a major threat of high inflation once the global economy does start to recover. It is universally agreed that the combination of record low interest rates and huge stimulus programs is likely to lead to high inflation. In the UK, we have already injected £200b of Quantitative Easing (QE) into the economy with more likely over the coming months. This strategy has never been attempted in the UK so the outcome is unknown. Zimbabwe was the last nation to use QE and we all know where their inflation is! Gold has long been seen as a great way of protecting against inflation and currency weakness as it’s an independent tangible asset.
Finally, one of the main forces which drives the price of an asset is supply and demand. This is where gold comes into its own. Demand is at unprecedented levels with new buyers discovering the asset class all the time. In the last couple of years pension, insurance and hedge funds have started buying physical gold. China has lifted restrictions on domestic investors to encourage more of the largest population on earth to buy gold. And the central banks themselves are looking to aggressively increase their holdings of gold to balance their reserves and reduce exposure to the Dollar.
Supply on the other hand is flat to negative. The latest stats can be found on the World Gold Council’s website and there have been no major discoveries of gold over the past few years. It takes around 7-10 years from discovering gold to producing investment gold due to the bureaucracy and infrastructure needs. This means we enjoy a window into the next 7-10 years supply and right now there is no significant supply coming into the market.
So while it would have been perfect to buy gold 10 years ago, it’s still a great time to buy. As an investor, it’s all about having portfolio balance and gold provides a unique balance and protection in these turbulent times. That’s the same for experts like Soros, and the man on the street.