For an asset class often touted as a portfolio stabilizer, gold bullion’s recent behaviour is causing some clients to doubt its reliability. Although many are throwing in the towel regarding the precious metal, as indicated by its dramatic price plunge this past month, others see gold’s swoon as a compelling buying opportunity.
The gold bullion price fell in mid-April to US$1,361 an ounce, its lowest level in two years, as investor confidence was punctured by a barrage of bad news, including a massive, 400-ton short sale by an unidentified entity on New York’s Commodity Exchange Inc.; fears that European central banks might sell gold; and negative price forecasts from firms such as Société Générale de Belgique SA and Goldman Sachs Group Inc. of New York. In the time frame of two days, bullion prices fell by more than US$200 an ounce, or 13%, amid frenzied selling.
“The bears were licking their chops; the bulls were licking their wounds,” says David Chapman, a financial advisor with MGI Securities Inc. in Toronto who recommends his clients hold about 35% of bullion in a balanced portfolio.
Proponents of gold say bullion continues to be a proven portfolio diversifier, as it marches to a different beat than do the stock or bond markets. Gold represents a true hard asset at a time when the financial world is being flooded by paper as debt-strapped governments around the world resort to expansionary policies to stimulate moribund economies. But some clients are shunning the metal as a relic of the past as they seek enticing growth opportunities in stock markets.
“Never has a commodity generated such emotion,” says John Ing, president of Toronto-based Maison Placements Canada Inc. and longtime gold analyst. “Gold has had a 12-year run, and everyone is quick to say we’re entering a long-overdue correction and the bull run is over. I think the obituary is premature.”
What will fuel gold is the continuing weakening in the purchasing power of currencies, says Ing, particularly the world’s reserve currency, the U.S. dollar. The U.S. is wallowing in record government debt and is adding to that with annual deficits in the trillions of dollars.
Gold hit its zenith at US$1,912 an ounce in September 2011, ending a run that began at US$250 in 1999. Market-watchers say April’s massive swoon was fuelled by the unprecedented 400-ton short sale worth US$20 billion, which, some speculate, may have been designed to set off a storm of selling and negative sentiment in order to drive down prices further. With the outstanding short sale still to be covered or extended, Chapman says, the question remains: is there another shoe yet to drop?
Although the price of gold bullion is off from its peak, the plunge in gold-related shares has been even more dramatic. The S&P/TSX global gold index has plummeted by 40% in the past year. With shares depressed, gold-mining companies have found it difficult to raise new money for exploration. New supplies will be adversely affected by the dearth of new discoveries, as well as by the long lead times and excessive cost in getting new mines into production. If bullion prices sink further, that could be devastating for many companies whose costs of extraction and production are rising, but beneficial for firms with high-grade deposits and producing mines.
“As value managers, we look for mispriced companies and are starting to investigate,” says Geoff MacDonald, chief investment officer and co-CEO of EdgePoint Investment Group Inc. in Toronto. “Gold stocks are down, and it has worked in our favour that we haven’t owned them. But we are hunting to see if there’s an idea.”
Larry Moser, regional sales manager with Bank of Montreal in Ottawa, says clients with exposure to Canadian stocks through exchange-traded funds or mutual funds that track the S&P/TSX composite index already have exposure to gold through the sector’s heavy weighting in the index.
“Gold stocks have suffered tremendous underperformance,” Moser says. “[But] there are opportunities for those who expect bullion to rebound and [who]have a long-term horizon.”
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