With gold languishing at under $1200, Russell Silberston, Portfolio Manager at Investec Asset Management, discusses why gold should be viewed as a currency when considering its status as a ‘safe haven’ asset.
Lindsay Williams: Gold is traditionally seen as a safe haven asset. It is also a hedge against inflation but, with the gold price languishing between $1,200/ounce and having had every chance to prove itself as a safe haven asset, what is going on?
On the telephone now is Russell Silberston, Head of Multi-Asset Absolute Return at Investec Asset Management in London. Lots of things to talk about but is there a general view as to why gold just simply hasn’t taken off, Russell.
Russell Silberston: Yeah. Hello there, Lindsay. I think absolutely but, before that, I wanted to give you a disclaimer, as we like to do in our industry, and this is a really nice quote from Professor Ben Bernanke, who we know as ex-Chair of the Fed. When he was testifying in 2013 to the Senate, he said nobody really understands gold prices. I don’t pretend to understand them either.
So with that disclaimer, I will do my best. No doubt, gold is under pressure but I wanted to sort of illustrate this by thinking of gold as a currency. So gold is down against the dollar. The spot price is round about 8% or so lower this year when looked at in dollars but what if you are a Turkish investor? Actually, in Turkey it is up 48%; in Brazil it is up 10%; in rand it is up 6%. Since Brexit, in sterling terms, it is up 12%. So very much it can be viewed as a currency and I think underlining that sort of weakness this year is the story about the strong dollar. Really, to my mind, that is what is going on.
Lindsay Williams: Okay. So I have been very one-dimensional when I talked about the gold price languishing below 1,200 because I am talking about US $1,200/ounce but, in fact, what you do is you multiply the exchange rate of the country in which you reside or in which you are investing and that is the price of gold and that price of gold therefore turns it from a commodity into a currency.
Russell Silberston: Yeah, I think that’s exactly right. I mean the traditional sort of definition of a currency is it is a medium of exchange, a unit of account and a store of value. So, you know, it is a medium of exchange, certainly historically. You could pay things with gold but, of course, the last currency linked to gold was the dollar and that ended in 1971 but it had sort of a 3 to 4,000 year history before that. I don’t think anyone actually accounts for gold or no accounts are published in gold terms but it is a store of value, yes, absolutely. When you look at the only real inflationary period we have had post-Second World War and that is the 1970’s, gold performed very, very well.
So, yes, it is under pressure but actually I don’t think that sort of underlying quality of gold has disappeared. I think really it is the dollar that is very strong and then there is one other angle I wanted to talk about as well and that is real yields, i.e. yields after adjusting for inflation, and real yields in the US have been rising reasonably aggressively. Back in 2013, they were negative, nearly negative 1%. They are now nearly positive 1%. It doesn’t sound like much but actually that means there is an opportunity cost to holding gold as well.
Lindsay Williams: Yes, indeed, and, of course, the interest rate factor also plays out in another area of the gold market and that is hedging by the producers or hedging by central banks because what happens is, as interest rates rise, then the contango (in other words, the forward price) of gold goes out a little bit and encourages selling, future selling to hedge production. So although it is not a massive factor, it is also a factor that maybe takes a little bit of the edge off the price.
Russell Silberston: I think that is exactly right. Clearly, as yields are rising, it is all sort of linked. Basically, in my opinion, it is all coming back to what the Federal Reserve are doing. They are putting up interest rates. That is boosting the value of the dollar and several other assets that have traditionally been linked to that are falling.
On the demand side for gold, I mean typically, half the demand comes from jewellery and that is reasonably static; a quarter comes from the demand for physical bars and coins; a small percentage currently in ETF (exchange traded funds) and central bank demand and that sort of demand is low. It is the lowest – we have had the lowest demand start of year since 2009 and, again, why does a central bank buy dollars? It holds them as part of their foreign exchange reserves. How do those reserves build up? Well, typically, when the dollar is weak and there would be flows into emerging market economies, those reserves build up. At the moment, of course, those reserves are going nowhere because the dollar is strong and the emerging market currencies are weak. So there is no sort of natural demand at the moment and I think that is undermining prices as well.
Lindsay Williams: Yes, indeed. Who is to say that it won’t bounce back at that stage but, as in so many geopolitical events over the last year-and-a-half and it had little blips up to upside but ultimately settles lower. Let’s talk about other safe haven assets. I know you at Investec Asset Management, particularly in London, are very keen on the Japanese yen as a safe haven or Japanese yen assets. Is that still the case?
Russell Silberston: Yeah, absolutely and again it’s a currency that we believe is very cheap. We mark it as 10% cheap and we believe the Japanese economic fundamentals are reasonably solid and we think that the Bank of Japan are beginning to exit years and years of super easy monetary policy. So, actually, the yen this year has actually done quite well against the dollar and so again in the end terms, the gold price is even lower, so we do like the yen.
Lindsay Williams: Okay. So just to summarise then, gold has lost its lustre. It had every opportunity to go higher and, indeed, a lot of researchers that I spoke to, with their semi or annual reports on the gold price, have been bullish, talking about $1,500/ounce. It is not doing it but there are safe haven assets out there and there are currencies that you could be hedging against by using gold.
Russell Silberston: Yeah, I think that is exactly right, Lindsay. The opportunity cost of gold has gone up, as we have discussed. A US Treasury bill, which is perhaps the most liquid ultimate safe haven asset, is looking more attractive. You can earn sort of over 2% through a 3 month instrument. Demand for gold has diminished. As I say, absolutely there are other assets out there that looks good but I will take the really, really long term history and say actually, you know, when it really needs to perform, gold does perform and I don’t think the investment case has gone away. I just think at the moment and particularly this year, we are seeing this sort of odd sort of evolution event where the dollar is very strong.
Lindsay Williams: Russell, thank you very much for your time. That is Russel Silberston, Head of Multi-Asset Absolute Return at Investec Asset Management in London.
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