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Worth the weight

Gold has been a hot topic of late, as its price again surged through $1,000 an ounce. The last time I featured the best-known gold fund – BlackRock gold & general – in this column 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 by 56 per cent while the gold price held fairly steady. This was mainly due to the ongoing financial crisis driving down the price of shares across the globe. Remember that BlackRock Gold & general invests in the shares of gold mining companies, not in gold bullion itself.

From its low point in October 2008 however, the fund has risen by 149 per cent and has managed to claw back its previous losses. That said, since I wrote the previous article the fund is up by 9 per cent while the price of gold bullion is up by 62 per cent (in sterling terms).

Why the difference? Partly, this was due to the fact that investing in shares is riskier than holding physical gold, so tends to be more volatile and sensitive to the stockmarket.

The other main reason was a breakdown in the traditional relationship between bullion and mining shares. Historically, 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. This is because a higher gold price has an exponentially positive effect on the profits of gold mining companies, although this only works if the companies’ costs are kept under control.

However, costs had been increasing as the price of energy and other raw materials went gone 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, though, is that costs are now starting to moderate.

Gold mining companies are getting their houses in order and delivering rising earnings again. There is also a move back towards paying dividends and while gold mining is never likely to be a big income-producing area, there is significant shareholder value to be had in a steady stream of dividends. This trend, coupled with a positive outlook for gold generally in an uncertain economic environment, bodes well for the future.

A key driver of the gold price is investment demand. Here, the creation of physical gold exchange-traded commodities has helped greatly in making the asset class more accessible to the average investor.

Such investments, which can be bought through stockbrokers, 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 help push the price up in the long term.

Jewellery demand is also important, particularly in India which is the world’s biggest importer of gold, but, 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 acquire the means to indulge in gold jewellery.

BlackRock believes that the anticipated long-term trend of the gold price will be upwards but it does not attempt to make short-term forecasts. Analysis focuses primarily on the quality of individual mines. When it believes a prosperous and profitable mine has been found, it will do further work into the company (or companies) that own it, looking in particular at the track record of management. Only when satisfied on all fronts will it make an investment.

BlackRock gold & general should be considered a higher-risk, volatile investment. That said, its long-term record is astonishing. Since launch in 1988 it has risen by 2,702 per cent, compared with a rise of just 156 per cent for gold bullion (in sterling terms). There is no guarantee this will be repeated in future but, considering the global economy is likely to remain weak for some time and that recovery will be slow and painful, I believe gold remains an attractive investment.

Mark Dampier is head of research at Hargreaves Lansdown

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