Could alternative energy be a better bet than gold?

published 27 June 2006

In February, we rather bravely suggested that gold bullion could, if it held its current trend, reach $600/oz by June this year. Instead, it hit $600/oz on Tuesday, 11th April.

Bull markets notoriously climb "walls of worry". However, the evidence of this primary bull market is, in our view, irrefutable and it represents an indictment of the sanguine attitude world investment markets have about global imbalances, asset over-valuations and central banks' loose monetary policies.

Gold has gone global

The previous bull market for gold kicked off in 1971 when Richard Nixon slammed the gold window shut. Gold at that point was $35/oz. By 1975 it was five-fold higher at $196/oz, by 1979 $250/oz, and then within a year, peaked at $880/oz in January 1980, the all-time high to date, a twenty-five-fold increase in the nine years from 1971. The current, rather scary, speed at which the gold price seems to be moving is, against that historical comparison, not necessarily something to worry about.

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As we have said before, gold has gone global; it is now profitable to hold gold in almost any currency in the world so is it any surprise the demand is growing? Demand was recently increased by Iranians who apparently see gold as the only sensible investment to hold as a hedge against just about everything who would want to be an Iranian with money to invest?

As the middle classes of China and India grow in size and in wealth, the scale of their demand for gold jewellery is mind-boggling to consider.

It was recently reported that Vladimir Putin has ordered the Russian Central Bank to double its gold resources from 5% to 10%. Imagine yourself as a central banker in an oil-producing country with all those highly questionable dollars; what alternative asset would you swap them for, other than gold bullion!

Gold production past peak

Supply is also a problem. Gold production peaked in 2001 at 2,620 metric tons, and by 2005 production was less than 2,500 metric tons.

Oil is above $72 per barrel, a new record high previously set at the time of Katrina. The hurricane season doesn't start until 1st June. This time last year, oil was only $55 per barrel and we are only just entering America's peak summer driving season. American gasoline inventories are 18 million barrels below the best estimate. Unfriendly Iran, Nigeria, Venezuela and potential hurricanes, all threaten supply. The continuing demand and risk of supply disruption might, over the next few weeks and months, drive oil prices to $80 or $100 per barrel.

Both the gold price and the oil price have very important consequences for investment. Most RHAM managed portfolios have exposure to the Merrill Lynch Gold & General fund which has recently made a new all-time high, and either Investec Global Energy or Merrill Lynch World Energy which have also just made new highs.

Alternative energy to eclipse gold?

But our very favourite investment is the Merrill Lynch New Energy Fund. Alternative energy will continue to be the big story and we think, might even eclipse gold as the best investment story over the next few years. This fund has also made a new high - although not an all-time high because, when first launched in April 2001, it was thought to be a bit of a joke and, following launch, suffered a considerable setback. However, it is now well set on an upward path.

The commonsense of the alternative energy story is impossible to dispute. It was recently said, "As oil goes crazy, alternative energy catches fire!" It comes as no surprise to read that savvy investors, such as Vinod Khosla founder of Sun Microsystems; Bill Gates; Barry Page the co-founder of Google and Robert Metcalf the co-founder of 3Com Corp are all making huge investments in alternative energy businesses. An investment theme that we consider will sustain, sustain and sustain.

The bull market for commodities is still in its early stages. We expect, over the coming years, for investments such as these to be substantial core holdings and drive portfolio values significantly higher. It is one of the most easily recognisable supply and demand investment opportunities that could ever be envisaged.

By John Robson & Andrew Selsby at RH Asset Management Limited, as published in the Onassis Newsletter, a fortnightly newsletter that gives insight into the investment markets.