Mark Dampier: The golden days are here to stay

The Analyst

Gold has been a hot topic of late, after its price again surged past $1,000 an ounce. The last time I featured the best-known gold fund – BlackRock Gold & General – was in October 2007. At that stage the gold price was around $760, so how has the fund performed in the last couple of years?

Well, as football commentators say, it was a game of two halves. In the first year, the fund fell 56 per cent while the gold price held fairly steady. This was mainly due to the ongoing financial crisis that drove down the price of shares across the globe. Remember that BlackRock Gold & General invests in the shares of gold mining companies – not gold bullion itself.

However, from its low point in October 2008, the fund has risen 149 per cent. That said, since I wrote the previous article the fund is up 9 per cent, but the price of gold bullion is up 62 per cent (in sterling terms). The difference is partly because investing in shares is riskier than holding physical gold, so tends to be more volatile and sensitive to the stock market.

The other main reason was that there was a breakdown in the relationship between bullion and mining shares. Traditionally, a 1 per cent change (up or down) in the price of bullion has translated into a 3 per cent change in the price of gold shares because a higher gold price has an exponentially positive effect on the profits of gold mining companies. This only works, however, if companies' costs are kept under control.

Costs had been increasing, though, as the price of energy and other raw materials went up. Currency movements were another big factor, with major gold producers in South Africa and Australia having their profits hurt by the US Dollar exchange rate.

The good news, however, is that costs are now starting to moderate. Gold mining companies are delivering rising earnings again. There is also a move back towards paying dividends and there is significant shareholder value to be had in a steady stream of dividends. This trend bodes well for the future.

A key driver of the gold price is investment demand, and the creation of physical gold ETFs has helped make gold more accessible to average investors. These investments, which can be bought through stock brokers, are designed to track the price of gold bullion. It stands to reason that as it becomes easier to buy gold, investors are more likely to do so; more demand for gold will push the price up in the long term.

Jewellery demand is also important, particularly in India, which is the world's largest importer of gold. Yet, partly due to the recession, this has fallen off. In the long run, however, the outlook is more positive as emerging nations become more prosperous and their citizens have better means to indulge in gold jewellery.

BlackRock believes the likely long-term trend of the gold price will be upwards, but it doesn't try and make short-term forecasts. Its analysis focuses on the quality of individual mines and, following further analysis of the mine and its owner, they will invest if they are satisfied.

BlackRock Gold & General should be considered a higher risk and volatile investment. Its long-term record is astonishing, though. Since its launch in 1988 it has risen by 2,702 per cent compared to a rise of only 156 per cent for gold bullion (in Sterling terms). There is no guarantee this will be repeated in future. However, considering that the global economy is likely to remain weak for some time, I believe gold is an attractive investment.

Mark Dampier is the head of research at Hargreaves Lansdown, the asset manager, financial adviser and stockbroker. For more information about the funds included in this column, visit www.h-l.co.uk/independent