A little note on POG from the Globe and Mail
The Outlook for Gold - An Interview with Ranga Chand
GLOBEfund: Ranga, given the wild swings in gold prices recently, many people question whether gold
will ever regain its traditional safe haven status as a currency of last resort. What are your views?
Ranga: Well, there is no question that gold has lost its lustre. While the situation in recent weeks may
have indeed highlighted this fact, in reality the shine has been off gold for close to two decades now. And
let me just give a little bit of history here. It will help put things in perspective. Until 1971, the currencies
of most nations were backed by gold under a modified version of a system called the gold standard. Under
the system, the price of gold was fixed at US$35 an ounce and was used by governments to peg the value
of their respective currencies. Then, in the early 1970s central banks abandoned the system and adopted a
floating exchange rate where the value of a currency is determined by the laws of supply and demand. As
a result, gold now trades like any other commodity and there are no fixed rates.
GLOBEfund: Why have investors traditionally bought gold?
Ranga: Investors buy gold for a number of reasons. They buy it as a currency hedge to protect their
investments particularly during periods when currency markets are volatile, as a hedge against inflation
and for its role in diversifying their portfolios. Others purchase it simply as a commodity.
GLOBEfund: Those all appear to be good solid reasons for holding gold. So why aren't investors
buying?
Ranga: A good question, but if you step back and take a longer term view, gold prices have been falling
since the 1980s. Gold was at its peak in the early 1980s when, if you recall, inflation was rampant and
running at double digits. At its high point, gold was worth about US$850 an ounce. Well, over the course
of the past eighteen years, prices have plunged, albeit not in a straight line. To put things in perspective,
since the beginning of 1980, the TSE 300 is up by a cumulative 567%, but gold is down by 43%! In other
words, an initial investment of $10,000 in stocks would be worth $66,700 today, whereas the same
investment in gold would have dropped to $5,700. And to add insult to injury, during this period, gold has
been the worst performing asset category and the only one to deliver a negative return to investors.
GLOBEfund: And currently?
Ranga: Well, there are really no compelling reasons for investors to buy gold at this time. Inflation is
virtually non-existent in much of the industrial world. Stock markets are rising strongly in North America
and Europe, and economic growth, despite the turmoil in Asia, remains robust.
GLOBEfund: With the Asian financial crisis, however, it would seem that the price of gold would
strengthen as individuals seek a safe haven. Why has this not occurred?
Ranga: The Asian crisis and its resulting devalued currencies has made gold much more expensive for
individuals in those countries. Moreover, many Asian investors sold their holdings in gold in order to
offset other investment losses. But most importantly, recent gold sales by various central banks including
those of Australia, Belgium, the Netherlands, Portugal and Argentina has fueled growing concern that
central banks may sell off more of their gold reserves to either buy better performing assets such as
government bonds or, in the case of European central banks, to meet the European Union's criteria for
participation in monetary union. This has obviously had a strong and negative influence on the market in
recent months.
GLOBEfund: And then there was Switzerland.
Ranga: Right. The announcement by Swiss authorities late fall last year that they were contemplating
selling a large chunk of their gold holdings really spooked the market. Remember, Switzerland is the only
country where its currency is still partially backed by gold, and the news of their proposed sell-off sent
gold prices skidding.
GLOBEfund: But prices have risen recently. What's your take on that? Has gold turned the corner?
Ranga: Well, I think it's possible that in the short term gold prices may indeed rise. They could easily go
up by another $10 or $20 over the next few months. And the trigger here would be how much gold
European central banks decide will be necessary to back the single currency, the euro, which is slated to
come into being on January 1st, 1999. Obviously, the higher the percentage, the more bullish this will be
for gold in the short term.
GLOBEfund: And the longer term?
Ranga: In the longer term it's hard for me to make a bullish case for gold. As I said earlier, inflation is
virtually non-existent, and based on our longer-term projections for the world economy, it seems to me that
it is highly unlikely that there will be a significant breakout of inflation, particularly in the industrial
world, over the next ten years or so.
GLOBEfund: Ranga, you're obviously not a gold bug?
Ranga: I guess it shows. No, I think it would take a catastrophic event such as the economic collapse of a
major industrial country (and here Japan certainly bears close watching), a virulent outbreak of global
inflation or the onset of a prolonged bear market in stocks for gold to come into its own again. While one
can never rule out any such event occurring, the likelihood of their taking place, in my judgment, is quite
remote. The wild card, of course, is investor reaction. For example, if the news from Japan keeps getting
worse and markets start to correct, investor psychology could very easily turn negative, and this may
indeed boost gold prices. But, only in the short term because in a world where inflation is not only low but
is also expected to remain low, I don't think such price hikes would be sustainable.
Ranga Chand, an economist, is President of the research firm Chand Carmichael & Company Limited.
He is also the author of Ranga Chand's World of Mutual Funds 1998 Edition and Ranga Chand's
Getting Started with Mutual Funds
Friday, April 17, 1998
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