Gold is proving its worth as an investment counterweight

Gold investment counterweight miners
Gold has shown in recent times how it can offer balance in a share market investors portfolio.

One thing that the rapid paced share market correction of late 2018 should have taught us all is that gold still works as an important investment counterweight.

While stocks were tanking in December – particularly in the United States – the gold price had awoken from its long term slumber and was rising strongly.

Now that share markets are beginning to recover, the gold price has headed down marginally again.

However, gold has also been in the news recently for other reasons, with the announcement of a $US10 billion (A$14 billion) merger between Newmont and Goldcorp to form the world’s largest gold miner.

That follows on from the earlier $US6 billion scrip merger between Canada’s Barrick and London-listed Randgold.

Bigger is better for gold miners

So the big gold miners are joining forces and getting bigger to offer some gold production scale and future ounces in the ground to provide a real alternative to the very popular gold-backed exchange traded products (ETPs) such as ETFS Metal Securities’ GOLD (ASX: GOLD).

Gold exchange traded product vs ASX 200
Gold (ASX: GOLD) vs ASX 200

The big gold miners have had a tough time keeping up with the gold ETPs which effectively offer full physical gold backing and also support the gold price by buying physical gold with fund inflows as investors buy more ETP units.

Headwinds for miners

By contrast, the gold miners haven been battling lots of headwinds including declining reserves and grades, high production costs, a lack of really big new gold deposits to mine and the expense and time taken to bring newly discovered deposits into production.

It is a bizarre situation when you think about it – gold miners dig gold out of the ground and sell it while gold investors buy that gold and bury it in the ground again in big vaults.

Traditionally, though, investors apply a big discount to gold which is “stored’’ in gold mining companies’ reserves compared to gold already stored in vaults, even though the latter actually costs money to store and doesn’t earn an income.

Investors also apply a premium for the size of the gold miner and whether it has a US listing or not, something that Australia’s gold mining heavyweight Newcrest Mining (ASX: NCM) is trying to overcome by potentially getting a US listing of its own and by having better reserves and lower costs than its larger gold mining competitors.

Why invest in gold?

Well, one reason was shown right at the start – gold tends to do well during volatile times when other investments are usually heading south.

That counter-cyclical behaviour is one of the reasons why many traditional investors opt to have 5-10% of their money in gold.

Another traditional reason to invest in gold is that it is a portable store of value – an ounce of gold in New York is worth about the same as an ounce of gold in South Africa or Russia.

Gold is also a useful metal for jewellery and electronics among other uses, which helps its value and it is obviously fairly scarce compared to many other metals such as copper or lead.

The other reasons to invest in gold are as a hedge against inflation and the potential falling value of paper currencies that don’t enjoy any physical backing – other than in the old days of the gold standard, which is another story altogether that I won’t get into here.

The disadvantage of gold is that it does not produce a yield and costs money to store, which is reflected in higher costs for ETPs compared to share exchange traded funds (ETFs).

Barbaric relic still useful

Gold was described as a “barbaric relic’’ by famed economist John Maynard Keynes, although, in fairness, he was referring to its role as backing the US dollar through the gold standard, which enabled anyone to swap their dollars for gold coins.

At that stage, having gold to back your currency was seen as a wise strategy and a way to stop runaway inflation and keep government spending in check.

Even today, most reserve banks around the world hold large supplies of gold, although they have printed money well above what could have been achieved by a gold standard.

For such a relic, gold has shown amazing resilience as an investment, even through many years in which its price has languished and interest has waned.

It is one of those investments that really rewards good timing – one example of which was the second half of last year.

Gold comfortably beat the S&P 500 index for the fourth quarter and the year, and, perhaps surprisingly, has beaten the US and Australian markets this century (since the end of 1999) – even though it is still well off its 2011 high.

It might be barbaric, but for many, gold is still worth having somewhere in an investment portfolio.

John is a highly experienced business journalist and formerly chief business writer for the Herald Sun. He has covered Federal politics in Canberra, was Los Angeles Bureau chief for News Limited and was also chief of staff for the Herald Sun. He has covered a wide range of small and large cap ASX stocks and has a special interest in mining, technology and biotech.