Why Gareth Morgan Investments and the mainstream are wrong about gold Part 2 | A counter to GMIs senior economist

Our recent article looking at the opinion of Andrew Gawith, the executive director of Gareth Morgan Investments on gold, lead us to discover a previous article also from Gareth Morgan Investments on the yellow metal.  This one by Chris Worthington, GMI’s senior economist, written at the end of last year.

Mr Worthington states that the main reasons for gold’s rise can be summed up by the general rise in commodities for the past decade.  i.e. the growth of China has meant high demand for all resources.

China is buying many commodities including gold.  Obviously they are buying iron, copper and the like to build infrastructure that an economy emerging from decades of repression now requires and goods that the rest of the world demands.  So then why are they buying gold?  Gold has limited industrial uses so the amount they hold on their balance sheet is unlikely as a stockpile for industrial purposes.  The recent World Gold Council report showed that jewellery demand increased 7% from a year earlier.  But investment demand increased 26% on the same time last year.  Could it be the “crazy” Chinese are aware of something Mr Worthington isn’t?  Given they hold about 3 trillon US dollars and the US dollar has been steadily losing value the past decade, are they perhaps hedging their bets?

Mr Worthington then comments, “The long-term performance record of gold should instantly give pause to investors seeking to safeguard their retirement purchasing power. The losses borne by investors who bought at the last gold price peak (and still the true record-high in real terms) are mind-boggling. From the peak in 1980 to the low in 2001 (which most would consider as a long-term investment horizon), gold prices fell 87 per cent in real terms. And to be generous, I haven’t deducted transaction and storage costs over this period. Even eight years into the rally, investors are still 45 per cent below the high-water mark.”

We’d say it’s somewhat disingenuous to look at the top of last gold bull market and compare it to the very bottom.  If we take the top of the NASDAQ stock market index in 2000, 11 years later it is still down some 45%.  And the Dow Jones industrial average is only up about 5% in total during this period (and if you price these in gold as we personally like to do the “returns” become even more negative.

We’re not in 1980, it’s 2011 and what we do with our wealth is to be determined by what is going on in the world now.  I’m sure that when the economic times change GMI actively alters their portfolio holdings in line with the change in their outlook for various sectors.

There is a time to hold gold and a time when it’s probably better to put your wealth to work returning a yield.  However with interest rates at historical lows and looking likely to be kept there for a bit yet, – 1), because if they weren’t asset prices would fall even further and 2), because if they rise, US and other countries government debt is so high now they won’t be able to service them if rates rise too high, – it seems to us that there aren’t too many options for the average investor at the moment.  It’s very hard to generate a yield in this environment.  As we explained in this previous article Why Gareth Morgan Investments and the Mainstream are Wrong About Gold, it is this environment of negative real interest rates (the interest rate less the inflation rate) in which gold shines, not the oft quoted high inflation that Mr Worthington also refers to.

Mr Worthington also correctly points out:

“New Zealand gold investors might be surprised to learn that gold, in NZD terms, is actually down some 12 per cent from the peak in March last year.”

However it’s misleading to say gold is off its peak in NZD over such a short time scale.  So too was the GMI Kiwsaver Balanced fund 3 years after it’s inception in September 2007.  In fact it’s only in the past few months that the fund has gotten back into positive territory.  As of March 2011 the fund has returned just 2.9% in total since inception almost 4 years ago.  Another GMI fund has lost 5.2% over this period.  Granted GMI would state this period takes in the Global Financial Crisis and nothing performed well during this period (excepting US treasuries and Gold, which bounced back strongly).

But even being kind and picking the highest performing GMI fund, the GMI Conservative fund (which since September 2007 has done well compared to many others), has only returned 9.4%.  And annualised this is only 2.6%pa.  Barely enough to keep up with official inflation over this period.

So for comparisons sake, let’s look at the NZ dollar price of gold from September 2007 to March 2011. Over this period gold in NZD has gone up about 58%.  The question to ask is what does the future likely hold.  Is there any indication that governments are going to reign in their spend-crazy money printing habits?  Are interest rates likely to rise significantly more than the rate of inflation?  Central banks are keeping them low to force us to put our dollars to work elsewhere at a higher risk.

The structure of the worlds financial system where money is debt means money needs to keep “moving” so we don’t slip in to the deflationary spiral that Mr Worthington believes is of greater risk than inflation right now.  History shows that gold also performs well in a deflationary environment such as The Great Depression where it maintained teh purchasing power of thos ethat held gold and related investments such as gold mining shares.

Now, we’ll be the first to admit you need to be aware of someone “talking their book”.  That is to say that someone dealing in a particular sector of the market is likely predisposed to talk that sector up.  Obviously we make a cut from any gold and silver sales via us so you would say we have a vested interest in talking up gold and silver.  So bear that in mind when reading anything we have to say!  But also bear the same in mind with regard to GMI – they deal in Kiwisaver and superannuation funds, investing money on your behalf as they see fit.  They don’t invest in gold and likely never will as an email from a subscriber pointed out after last month’s article.  He’d asked GMI if there was a Kiwisaver fund associated with Precious Metal’s and if they had one he’d switch funds immediately. Here’s their not at all surprising reply…

Hello _____
Thanks for your email.  I have asked a member of our Investment Strategy team to respond and this is what they said:

To the best of my knowledge no KiwiSaver funds are explicitly commodity funds.  Tower, among others probably, offers a non-KiwiSaver commodity fund, or there are a number of ETFs available that explicitly track precious metals:

http://etf.stock-encyclopedia.com/category/precious-metals-etfs.html

As the precious metal asset class is very high risk we would be unlikely to ever hold more than a small percentage of the portfolio in it, and it is extremely unsuitable as a single retirement investment vehicle – so not the kind of thing we’ll see in the KiwiSaver space anytime soon I would hope.

If you have any further questions, please contact me.

Kind regards

Karena Goodall
GARETH MORGAN INVESTMENTS
Private Portfolios | Superannuation | KiwiSaver
Level 10, 109 Featherston Street, Wellington 6011

Mr Worthington final statement is “But the high inherent risk in gold makes it anathema to the conservative investor. Ironically, those with concentrated holdings are unwittingly taking on the huge risk of the wealth destruction they seek to avoid.”

He’s probably right about some investors being ruined by gold.  It will be those that join in late that are hurt.  It will only be when everyone is talking about gold and when mainstream economists are expounding the benefits of gold, that the average conservative investor will probably begin buying – all too late after their purchaisng power has been destroyed by profligate government money printing.

His overall opinion seems to be that the commodity bull run is just about over and therefore so too is gold’s.  Time will tell, but we’re not selling yet…

If you’d like to know the exact process for selling gold and silver see: Sell Gold & Silver Bullion, Bars or Coins