In the economic downturn, gold shines ever brighter

As stocks reel and banks collapse, demand for a safe haven is at a record high. Sarah Arnott reports

Thursday 19 February 2009 01:00

It was a year when banks collapsed, markets reeled and currencies plummeted. But 2008 was a record-breaker for gold as investors rushed for safety from the maelstrom buffeting financial systems across the world.

Demand for the yellow metal shot up by 29 per cent in dollar-value terms to $102bn (£71.7bn) last year, equivalent to an extra 3,659 tonnes, according to the latest figures from the World Gold Council (WGC) yesterday. In the fourth quarter alone, demand was 26 per cent higher than the year before, corresponding to 1,036 tonnes with a total price tag of $26.5bn.

What is different from usual is who is doing the buying. Jewellery typically makes up the lion’s share of the global market for gold. But both jewellery and industrial demand dipped slightly in the second half of 2008 as the economic downturn took hold. It was investment demand that went through the roof.

“Investors around the world are concerned about the safety of money in banks, about the weakness in equities markets, about house prices falling,” Rozanna Wozniak, at the WGC, said. “People just don’t know what to do, so they are going into the safety of gold.”

In troubled times, the lure of gold is the absence of counterparty risk. Over the past year, as an eye-watering |$14 trillion was wiped off global stock values, only two things have gone up. One is US Treasury bonds, buoyed by the strengthening of the dollar. The other is gold.

There are two main ways to buy into the new gold rush (see box below). One is the purchase of the physical metal – either in bars or coins. The other is to put money into exchange traded funds (ETFs), which buy and store the gold on their investors’ behalf. Taken together, demand shot up by 64 per cent last year, with $15bn poured into investments in gold.

Taken separately, the figures are equally staggering. ETF funds grew by 27 per cent to 321 tonnes in weight terms, and by 53 per cent to $5.8bn in value in 2008, and the trend shows little sign of abating. This week, the holdings of the world’s biggest ETF – the SPDR Gold Trust – climbed above 1,000 tonnes for the first time, thanks to rises of more than 220 tonnes since the start of the year. The influx leaves the fund at seventh place in the global league of bullion holders, trailing only some central banks.

But the most dramatic rises of all are in the purchases of physical gold. Demand for bars and coins rose by 87 per cent over the year, with a massive surge towards the end as global recession loomed. In the fourth quarter, demand shot up by 396 per cent – from 61 tonnes in 2007 to 304 tonnes in 2008. The sharpest flight to safety was in Europe, where gold buying rocketed 1,170 per cent to 114 tonnes in the final quarter, from 9 tonnes in 2007.

Unsurprisingly, there are significant implications for price. Last year’s average of $872 per ounce was 25 per cent higher than the year before, and gold hit more multiple highs earlier this week, trading at £675 against sterling and €762 against the euro. It also reached a seven-month dollar high of $964. Although, adjusting for inflation, the gold price would need to rise to more than $2,000 per ounce to beat the 1980 peak of $800, a number of major investment banks are predicting prices will be up around the $1,000-mark this year.

But it is not only the chaos in the banks that is driving the flight to gold. Savers, already penalised by non-existent interest rates, are growing increasingly spooked by the spectre of inflation, lurking behind governments’ stimulus packages and discussions of quantitative easing. In the shadow of such concerns, companies such as GoldMoney, which buy and hold gold for their customers, are booming. This time last year, GoldMoney was storing metal for slightly fewer than 7,000 customers. After an increase of more than 52 per cent in 12 months, it now has more than 10,500. The amount of gold being stored has grown even faster, up 65 per cent to 11.9 tonnes. James Turk, the chairman, said: “This is ordinary people. With sterling dropping the way it did last year, a lot of people opted to hold their currency deposits in euros, but because of the banks’ circumstances people are exiting the banking system altogether.”

Gold bugs even blame the end of the gold standard for boom and bust. Without backing from a tangible asset, the collapse in confidence causing such problems for the banks can spread to the currency itself, warns Mr Turk. “When there is no external discipline controlling how much new currency can be created, it is always created to excess and that is what we have had this decade in the credit boom,” he said.

Individual investors are not the only ones looking to gold as a shelter from the storm. As equities across the board went into freefall, the mining sector has been hit particularly hard, rocked by the combined effect of the bursting commodities price bubble and China, in particular, reining in its rapid industrialisation.

But as investors run a mile from their less precious counterparts, gold miners are proving a sound choice. The JP Morgan Natural Resources Fund, for example, currently has around 40 per cent invested in gold miners, compared with levels nearer 20 per cent two years ago. Ian Henderson, the fund’s manager, said: “A substantial portion is in gold miners at the moment because it is less risky than almost anything else and that is set to continue until the banking system stabilises.”

That a number of gold miners – Kinross, Red Back, Iamgold, as examples – have been able to raise cash in the past few weeks indicates investors’ appetite for gold mining companies. Others – notably Rio Tinto and Xstrata – are having to looks to rights issues and investor deals to find the financing they need.

New millennium gold rush: What to buy and where to buy it

For those losing faith in the stock market and wary of the money markets, gold offers a safe – if static – investment opportunity.

The key choice is between buying a lump of metal or a product that offers exposure to the fluctuating gold price. The simplest way to buy actual gold is in the form of coins or bars. With the extra bonus of being VAT-free in Europe, investors can decide on bullion coins issued by governments or buy bars, typically 99.5 per cent fine gold, in a range of weights. There are 94 accredited manufacturers in 26 countries.

If you do not think your floorboards can take it, a less hands-on approach is to put money into a gold account. Some bullion banks also provide electronic currency services allowing customers to use their gold to send online payments.

The other main option is to buy into an exchange traded fund (ETF). ETFs track the gold price but, unlike derivative products, are 100 per cent backed by physical gold.

There are also futures, options and warrants, offering different types of investment with different levels of risk associated with the changing spot price.

For investors looking for opportunities further removed still, there are also gold-orientated funds operating as collective investment vehicles for buying shares specifically in gold miners.

Institutional investors looking for structured products have the option of various forward contracts, gold-linked bonds and structured notes.

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