After a Few Rough Years, Gold Fund Managers Hope Rally Lasts
Source: The Dallas Morning News
Publication date: 2001-05-29
May 29--Most mutual fund investors have been looking for returns in all the wrong places.
The biggest gains so far this year have come from one of the smallest mutual fund categories -- gold.
There are only 35 funds that specialize in gold compared with more than 5,000 typical stock funds, according to Lipper Inc. And the average gold fund has surged 19 percent so far this year, making it the best performing mutual fund category by far, according to Lipper, which tracks mutual fund performance. The average stock fund has dropped 2 percent.
"This rally comes none to soon because gold funds have just been decimated over the past three years," said Joe Foster, portfolio manager of the Van Eck International Investors Gold Fund. "But finally there are some things going on in the U.S. economy that are supportive of gold prices."
Gold prices have soared from $254 an ounce earlier this year to almost $300 last week, which flows directly to the bottom line of gold mining companies and into their stock prices. Most gold-oriented mutual funds own shares in gold mining companies in the United States, Canada and South Africa.
The current gold rally, and most of the previous ones as well, are the byproduct of fear -- fear of inflation, fear of global turmoil, fear of stock market volatility. In fact, while some deride gold as a useless relic in the age of electronic commerce, the yellow metal is a hedge against fear. And for most of this year, gold funds have benefited from the fear of inflation, Mr. Foster said.
The Federal Reserve has lowered short-term interest rates five times this year, or 2.5 percent, to add some spark to the lethargic U.S. economy. The central banks of Germany, the United Kingdom and Japan have been cutting rates as well. In other words, central banks are pumping money at a furious rate into all the major economies, and that cheapens their currencies and increases the risk of inflation.
"If the Fed continues to cut real interest rates (the interest rate less the inflation rate), they could actually be negative by the end of the year, and that is extremely rare and good for gold prices," Mr. Foster said.
Real interest rates last turned negative in 1993, and the price of gold soared from $70 an ounce to $400 and held that level for three years.
But since then, gold had lost some of its glitter.
The number of gold-oriented mutual funds has declined from 45 to 35 since 1998. Some went out of business while others merged into larger funds.
"It has been just horrible over the last four or five years," said Mr. Foster. "We have been losing one or two funds a year."
But things are looking up because demand could far outstrip supply in the coming months -- and this would be good for gold.
Currently, demand for gold, primarily for jewelry, is about 4,000 tons a year, industry experts said. Gold mines produce about 2,500 tons, which leaves a huge gap that has been filled mostly by central banks selling their gold reserves, said Robert Doyle, a gold analyst at Credit Suisse First Boston in Toronto.
And central bank selling is a one-time event. Once the banks sell their gold, they're out of the picture, he said.
"So, I expect that to slow down over the next 12 months," Mr. Doyle said. "And I see mine production slowing. I hate to say it, but we may see a bunch of miners in Nevada laid off.
"For the industry to survive and replace its reserves, it is going to need prices north of $350 an ounce," said Greg Orrell, manager of the Monterey OCM Gold Fund in Livermore, Calif.
If demand stays constant, and supplies decline, gold prices should rise, he said. And most gold fund managers are certainly looking for better times ahead for the industry.
Prescott Crocker, manager of the Evergreen Precious Metals fund, said in addition to the Fed cuts, the fires of inflation will be stoked by the large tax cut Congress approved Saturday.
The effects of the tax cuts should hit in November or December, about the same time that the Fed cuts will begin to have an impact, he said.
"We will be getting both a monetary impact [Fed cuts] and fiscal impact [tax cuts] at the same time," Mr. Crocker said.
International turmoil -- namely Chinese/U.S. relations -- could also help sustain higher gold prices, Mr. Orrell said. Historically, gold always performs well during periods of global uncertainty because investors lose faith in government-backed currencies.
Mr. Orrell said the Chinese government holds more than that $130 billion in U.S. dollars.
"It's not out of the question that the Chinese government will start to move some of that into gold," Mr. Orrell said. "I have heard the Chinese have been buying gold."
But the history of gold prices is pock-marked with promising rallies that fizzled. For example, in September 1999, gold prices soared from $250 to $339 an ounce and then quickly fell back to previous levels. The rally died after Kuwait announced it had loaned out its entire 89 tons of gold reserves.
Some gold investors said at that time the U.S. government persuaded Kuwait to dump gold into the market to bring down the price. There's a global network of gold investors who believe the U.S. central bank has deliberately suppressed the price of gold because low prices indicate that inflation remains under control.
And just last week, as gold prices began to spike over $285, the Russian government announced that it might sell some of its gold reserves to help flood victims in Siberia. Gold closed Friday at $279.10, down $4.50 an ounce.
Mr. Foster of the Van Eck fund doesn't buy the conspiracy theories, but he said it's frustrating that every time gold rallies some government official -- usually not identified -- announces plans to sell more gold. The true test of whether this rally has legs will come in the next two weeks, he said.
"If the market shrugs this Russian thing off, then it's the real deal," Mr. Foster said.
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(c) 2001, The Dallas Morning News. Distributed by Knight Ridder/Tribune Business News.
Publication date: 2001-05-29
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