Should you stick with gold?

Gold started 2013 at around $1,700 an ounce. By the end of June it had plunged to $1,200. After a late summer rally, it ended the year just a little above its low, and now sits at $1,235.

If you believe the commentators in the City then worse is to come. Moody’s has set a price target of $1,100, and Goldman Sachs is even more pessimistic, forecasting a drop to $1,050.

We feel that you should always hold some gold as portfolio insurance. It’s a great diversifier for your portfolio if things turn really bad. And if things keep improving and gold keeps going down – well the rest of your portfolio is doing well. That’s the point of diversification.

That said, as gold is so widely loathed at the moment there are actually various reasons why it might do better than most people think this year.

The Eurozone crisis

One of the reasons that gold did so badly last year is that it has been seen as a ‘safe haven’ against either a euro breakup or mass money printing by the European Central Bank (ECB).

But the ECB’s promise 18 months ago, that it will do everything possible to save the euro, seems to have convinced markets that everything will be OK. Interest rates for the high-debt countries have fallen, and the euro has actually gone up in value, even though the ECB hasn’t actually done anything different.

However, this state of affairs may not last. Weak lending and monetary data suggest that there is a real risk of deflation, inflation is currently at a multi-year low. That’s enough to have any central banker feeling jittery.

Meanwhile, after several years of austerity and recession, anti-euro sentiment is reaching a critical mass. In France, the far-right Marine Le Pen has experienced a surge in popularity. In Italy, the disgraced Silvio Berlusconi is re-emerging as an anti-Brussels populist.

And the fact that Greece is now running a trade surplus makes it easier for the stricken country to bring back the drachma (or at least threaten to). While a breakup isn’t the most likely scenario, the ECB could be forced to turn on the printing presses, which would push up the value of gold.

Further Asian buying

Another big driver behind the rise in gold over the past decade has been the surge in demand from consumers in India and China. These increasingly affluent buyers have been looking for a reliable home for their savings. The falling gold price has boosted Chinese sales, estimated to be up by 15% over the last year.

Demand in India, meanwhile, was so strong last year that the government was forced to introduce import tariffs and export restrictions, because of its impact on the trade balance.

Before the measures, India’s gold imports were only second to its oil imports. But while the measures reduced official imports, they also led to a huge amount of smuggling. This also created a backlash, and that suggests the restrictions will be lifted soon as India’s economy improves. That’s likely to provide a big boost to the global demand for gold.

Stick or sell?

If you sold your gold at the start of 2013 and invested in equities, then you should be very happy with yourself. But it’s unlikely that equities will have another bumper year, and it’s not considered to be a good time to sell your gold now. If you’re currently sitting on gold, it’s unfortunately likely you bought (at least some of it) when the price was much higher.

Gold is a medium to long term investment (3-5 years+), so for now stick with gold as part of your portfolio (5-10%). As mentioned, if the price does dramatically drop, you should be making gains elsewhere!

Thanks
Luke