Gold’s reputation as the best, probably the only, asset to have preserved its purchasing power over millennia is undisputed. But for mortal investors, it is much less reliable. Its price spends years, even decades, in the doldrums before taking off in an exhilaratingly exponential pattern when the world’s economy hits a trouble spot –only to burn out and fall just when the momentum appears unstoppable.
Every dollar on the gold price would drop straight through to an increase in the profits of gold mining companies if they didn’t sell most of their output forward in order to reduce the risk to profits of a falling price. The benefit of a higher gold price is also reduced by it becoming easier for the workforce to demand higher wages and for equipment suppliers to raise prices. In the longer term, costs per ounce rise as ore grades fall (the best ore is mined first) and as the mine face moves further away from the pithead.
Gold: an indestructible metal
Since gold is virtually indestructible, nearly all the 197,576 tons ever mined (two-thirds since 1950) is still around, mainly as jewellery, private investment, or in central bank reserves. The same can’t be said for mines. South Africa once dominated global production but now lies eighth in the world between Ghana and Mexico. China, Russia and Australia each produce around three times as much. South African production, 30% of the world total in the early 1990s, has fallen by 90% in 50 years; in mid-1998, 75% of mines were said to be unprofitable.
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The break-even gold price for a mine varies widely, depending on geology, accessibility and the policies of the host country. A few dollars on the gold price can mean the difference between solvency and insolvency, so larger firms are well diversified while smaller ones are more exposed to the gold price and the success of individual mines. Unsurprisingly, BlackRock’s Gold & General Fund, worth £1.3bn, focuses on larger firms. Its top-ten holdings include five of the ten largest gold miners and its top three, Newmont, Barrick and Kinross are respectively number one, two and four in the world. It has returned 156% over five years, including 29% over one, but is slightly down over ten. The £600m Ninety One Global Gold Fund also focuses on big firms and has performed better over five years, but worse over ten.
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More interesting is the CQS-managed Golden Prospect Precious Metals (LSE: GPM) with just £42m of assets. Its shares trade at a 36% discount to net asset value (NAV), but it has been one of the top trusts in the market in 2019 and 2020. The top-ten holdings contain none of the world’s ten largest gold miners, yet it has returned 209% over five years and 81% over one. For the bulls, this is the high-risk, high-reward fund to go for.
Better-managed miners
Only 35% of BlackRock World Mining Trust’s (LSE: BRWM) £939m portfolio is invested in gold miners, but the 31% in “diversified” mining means that underlying exposure is higher. The shares trade on a 5% discount to NAV and yield nearly 5%. Though their one-year return of 28% is far behind Golden Prospect, the five-year return of 199% is much closer. The trust has benefited from the strength of metal prices and improvements in the management of mining companies such as Vale, BHP and Rio Tinto.
Global quantitative easing and near-zero interest rates signal higher inflation while the supply of gold is constrained and demand from Asia is rising. So the outlook appears bright. The gold bugs tell a good story but that is not unusual; Mark Twain described a gold mine as “a hole in the ground with a liar on top”. The best time to invest is when the bulls are hibernating, as they were three years ago. The bull market in gold will end earlier than anyone expects, when the clamour from the bulls is deafening – but not yet.
