Thursday 12 December 2019

Gold: not an income-generating asset income but prudent investors should have a small holding

Gold may not be an income-generating asset, but with prices soaring to $1,138 an ounce every prudent investor should have a small holding as a form of 'wealth insurance', says Donal Roche

Gold has excellent defensive investment qualities but it is not an income-generating or 'growth' asset as it does not pay dividends or
Gold has excellent defensive investment qualities but it is not an income-generating or 'growth' asset as it does not pay dividends or interest

OVER the past decade, gold has been one of the few asset classes which has experienced significant price appreciation.

Gold has risen from a low of $255 in 2001 to a current price range of around $1,138 an ounce.

This performance is even more impressive when compared against the performance of other major asset classes in this period. The S&P 500 has fallen 28pc over the same period. We have always believed that gold is an important asset class for investors to consider when building their portfolio.

It is highly liquid and the price of gold tends to rise when other asset classes fall. This makes it an excellent defensive investment, providing capital preservation in times of turbulence. That said, gold is not an income-generating or "growth" asset as it does not pay dividends or interest.

However, we believe every prudent investor should have a small holding as a form of "wealth insurance", especially in times of economic turbulence as we are now experiencing. In line with our beliefs, our balanced fund currently has a 5pc allocation to gold.

An interesting illustration of the wealth-preserving characteristics of gold is that one ounce of gold would buy you a tailored suit in Saville Row in the 18th century.

One ounce of gold will still buy you a tailored suit in Saville Row today! The same certainly cannot be said for the equivalent amount in pound sterling.


Due to my perennial interest in gold, we at Covestone Asset Management were lucky enough to start building a position in gold in 2001 and thus ride the coattails of one of the most impressive bull markets of the last decade.

In my last article for the Irish Independent in February 2009, I argued that gold, then at a price range of around $875- 900, offered the prospect of capital appreciation over the medium term. Thankfully, I was proved correct and gold's price range now stands at about $1,138 an ounce after reaching an all-time high of $1,225 an ounce towards the end of 2009.

So the question now is: is there still room for further price appreciation in gold?

We believe there may be. Covestone has an overweight position in gold in our aggressively managed fund.

Broadly speaking, our overweight position is driven by the belief that if you solve a debt crisis by issuing more debt, something has to give. And that something will eventually be either widespread inflation and exchange rate volatility, or painful deleveraging and possibly sovereign default.

Public policymakers' response to the credit crisis has been to pump large amounts of fiscal and monetary stimulus into their economies. While this has stabilised the major world economies, the massive expansion of government and central bank involvement in the economy has led to fears of policy mistakes and doubts surrounding their ability to negotiate today's environment.

These fears seem well founded given the economic ineptitude demonstrated by many central bankers in allowing the current crisis to occur.

Indeed, it is not an easy place to be for global central bankers these days; either they continue pumping fiscal and monetary stimulus and run the risk of asset price bubbles, rampant inflation, currency devaluation and increasingly precarious government finances, or they withdraw the stimulus and risk a relapse into a double-dip recession. In the event of continued fiscal and monetary stimulus, gold is likely to have further upside. Gold is widely seen as a form of currency, a form of currency which has no dependence on any government.

Increasing gold exposure is also seen as an increasingly attractive option by developing countries who are looking to diversify away from dollar denominated assets. In fact, central banks of India and China have been building up their official gold reserves steadily in recent times.

However, if the alternative policy route of withdrawing stimulus is taken, deflation and a severe double-dip recession cannot be ruled out. In an environment of entrenched deflation, gold, the classic inflation hedge may perform less successfully. As national governments and economies are increasingly intertwined, it is progressively more difficult to make economic predictions as they rely on the decisions of political leaders.

However, we believe there are likely to be sharp national differences in government policy, with currency inflation and deflation co-existing with some bright spots of currency stability in countries such as Australia and Norway who have sound fiscal budgets and have managed to avoid the worst of the recent debt fuelled bubbles.

Given this backdrop of increasing sovereign risk and economic and political uncertainty, we believe gold's unique currency like characteristics make it an interesting and compelling alternative for investors.

  • Donal Roche is chairman of Covestone Asset Management

Irish Independent

Also in Business