Lara Crigger: Right now, the gold market is, shall we say, “enthusiastic,” due to fears of a double dip and uncertainty about the economy. Is gold nearing bubble territory?
Jason Toussaint: No, it’s not. Look at where we are now versus when this gold market began, literally a decade ago. It’s not as if this market came out of nowhere and grew asymptotically. This has been a sustained, gradual increase in the gold price over the past decade.
In terms of the actions of investors, as measured by their investments in the gold market, we’re far from what I’d refer to as a frenzy.
Crigger: Do the fundamentals behind gold’s current rise support a further price rise?
Toussaint: Of late there’s been a bit more volatility than, say, over the past year. Having said that, it’s important to note that demand for gold is not led by the investment sector. We had only one quarter where investment surpassed jewelry demand.
People aren’t buying gold simply as a dollar hedge or inflation hedge, or for double-dip fears. Some cultures around the world—like India and China, which are the largest gold demand markets—will purchase gold, most often in the form of jewelry, as a matter of lifestyle, religious beliefs, cultural beliefs, etc.
So yes, gold is a good inflation hedge. But if you look at the buyer of jewelry at a gold market in Chennai, India, they’re not asking, “Well, wait a minute, what’s the CPI estimate coming out of the U.S. tomorrow?” They don’t care.
Crigger: Do the traditional reasons people invest in gold—that is, for wealth preservation—still hold? Or is it now more about speculation?
Toussaint: Well, every efficient market has its blend of speculators, investors, long-term and short-term holders. Just like any other asset, it’s the relative balance of supply and demand that determines the price in any given point in time.
But I think the traditional uses of gold in the investment portfolio have changed. The modern approach to gold investment is: Instead of isolating risk factors like dollar worries or inflation worries in my portfolio and hedging those, let’s instead add gold to the portfolio and see what happens.
Gold is the ultimate diversifying asset class. The correlation between gold and the S&P 500 is statistically zero. In fact, the highest correlation between gold and any major asset class is with emerging market sovereign debt. A lot of emerging market countries rely heavily on gold and other mining activities for their income.
Crigger: What makes gold different from other commodities?
Toussaint: There’s hugely different drivers at work. How many people do you know who wear corn necklaces? How many iPads have their semiconductors wired with corn?
I’m being flippant, of course, but it comes back to the nature of demand. Gold is not like other commodities. Is it fair to lump gold into the rest of the commodities baskets? Or, should it be pulled out as a separate asset class?
I think what’s occurring now is very similar to what occurred in emerging markets equities. If you look back to the mid-‘90s, most U.S. institutional investors did not have segregated allocations to emerging markets.
Fast-forward to where we are now. Virtually every diversified and global institutional investor has at least some dedicated allocation to emerging markets. The same is occurring in commodities. Look at, specifically, commodity baskets, whether it’s GSCI or any of the other commodity indices: Gold had a very positive return in 2008, but everything else—the entire energy complex, platinum, palladium, all of the other metals except silver and gold—had vastly negative returns. That’s because many other commodities are hugely correlated to the global business cycle, whereas gold is not. So when things go completely off the rails, as they did in 2008, gold is there to preserve wealth.
Crigger: When you look at the future potential trajectory for gold, do you foresee a pullback in the gold price soon?
Toussaint: As a matter of policy, we as an organization don’t predict the gold price. But we do look at the fundamentals supporting both today’s gold price and where it may go in the future. So we can absolutely talk about trajectory.
Mining supply is fairly steady, although it’s slowing down and becoming more difficult to find new minable gold. New discoveries of gold, even with dramatically increased exploration budgets, are decreasing.
Crigger: Is that because there are gold deposits out there that we just don’t have the technology to access in a cost-effective manner? Or are we simply running out of new gold deposits altogether?
Toussaint: It’s a combo of the two. Let’s not forget the technology to mine gold is pretty advanced. There are mines in South Africa that are 3 1/2 miles into the earth.
The easy gold is gone. Is more gold left to be found? Yeah. But they’re not finding it at the rate that the industry would hope.
Crigger: How does central bank buying and selling play into that?
Toussaint: Typically another source of supply has been central bank selling. But gold is increasingly being recognized as a reserve asset among the world central banks. So the Western central banks have slowed down selling. Conversely, in accumulation mode, you have the Eastern central banks; places like Russia, India, Maldives, China, etc.
Crigger: How should investors get their gold exposure? Through bullion, ETFs, futures, stocks or a mix of the above?
Toussaint: It depends on the allocation size. A lot of wealth advisers we’re speaking to now recommend a 5 percent allocation to bullion; that is, to gold. And with a fairly modest allocation of that size, it could be done with all GLD or physical.
But when you buy physical—and there’s certainly merit for doing physical vs. GLD—periodic portfolio rebalancing becomes a pain. It’s not really a liquid rebalancing activity.
