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Gold’s place in a portfolio is limited - it's a financial teddy bear

 
Garry White
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Gold is more of a mind-set than an investment (Source: Getty)

An Egyptian billionaire has put half his $5.7bn (£4.2bn) net worth into gold. But with the outlook for prices mixed, is it a sensible move?

In a recent interview with Bloomberg, Egyptian billionaire Naguib Sawiris, Egypt’s second-richest man, revealed his enormous gold trade, arguing that stock markets were overvalued and were about to slump. He predicted the price of the precious metal would rally to about $1,800 from $1,300 now, as equity markets floundered.

Gold is regarded as a “safe haven” investment and store of value over time, so global economic and geopolitical uncertainty tend to make the metal more attractive. It has significant allure for many on the US libertarian right, who believe that the current “fiat money” system, where currencies are not backed by hard assets such as gold, will unravel with devastating effects. In theory, the price tends to outperform in equity-market downturns, but during the sell-off at the height of the financial crisis ten years ago the gold price fell too – as investors liquidated holdings to meet margin calls elsewhere. Putting such a huge amount of one’s wealth into one asset class is risky. However, it is clear that Mr Sawiris likes to play things as risky as he can.

Chasing risk

The billionaire has made significant investments in North Korea, a rogue state that has been subject to sanctions for a very long time. Amongst other things, he helped found Koryolink, North Korea’s first telecom operator which has helped mobile phones become a regular sight on the streets of the country. However, political tensions and sanctions means he has struggled to repatriate profits and exercise full control over the business. CNBC reported that he invested about $250m in Koryolink alongside Pyongyang. So, Mr Sawiris has built a career – and a fortune – making punchy moves.

Many gold bugs are obsessive. For them, gold isn’t really an “investment” as such, it is a mind-set – one that is clearly demonstrated in the myriad of websites that extoll gold’s virtues. Gold bugs are utterly alarmed by the ethical and practical implications of government fiat money. In fact, they treat gold as if it is some sort of financial teddy bear. In times of market trouble, gold bugs take their gold holdings and given them a cuddle to feel better about the world – but the fear aspect means they rarely sell when worry (and, in theory, the gold price) is high. The price then falls to a level at which they will not sell because they don’t want to lose their psychological crutch. It is therefore, arguably, an odd investment to hold.

Where are prices heading?

So, what lies in store for the gold price now? Will another risky move for Mr Sawiris pay off? From a market point of view, predictions of a crash seem premature. Equity markets recovered from their recent wobble in April and the low level of inflation in the developed world does not suggest the type of overheating one would expect to see at the tail end of an economic cycle. Real rates are still in negative territory and, whilst the Federal Reserve is tightening policy gradually, the dovishness of central banks in Europe, Japan and China is likely to ensure financial conditions remain supportive globally.

One issue for gold bugs is the dollar. After being weak against major currencies for some time, it appears to have turned and has been strengthening. Because commodities are priced in dollars movements in the US currency have an impact. A rising greenback makes gold more expensive for buyers in other currencies and can therefore hit demand. This is why the gold price and the dollar tend to have an inverse relationship – gold falls as the dollar rises. With the US expected to continue to raise interest rates to a greater extent than in other developed markets, the outlook for the dollar could be positive. However, foreign exchange markets are notoriously unpredictable.

There are also issues on the demand side. The World Gold Council’s (WGC) latest quarterly report showed waning demand for the precious metal in the first quarter of 2018. Demand for gold fell 7 per cent year-on-year between January and March to 973.5 tonnes and exchange-traded fund (ETF) purchases fell 66 per cent compared with the equivalent period of 2017. Overall, gold investment fell 27%, the WGC said.

The gold mind-set is the precursor to that of the current cryptocurrency bulls – the so-called “Crypto Bros”. Indeed, it is possible that digital currencies may eventually impact demand for gold as well. This is unlikely to happen soon as currencies such as bitcoin do not have a track record as a store of value because of their youth and volatility. But, over time, this will be interesting to watch.

If gold acts as a psychological insurance policy and eases an investor’s fear of the unknown, it’s fine for it to have a small place in an investment portfolio. But it is a non-yielding asset which can have significant storage costs. If financial Armageddon doesn’t arise and the global fiat money system doesn’t collapse, its value as an investment is questionable.

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