Gold or Gold Shares?
By Viwe Tlaleane and Lindsay Williams
10 Apr 2007 at 10:13 AM GMT-04:00
resourceinvestor.com
JOHANNESBURG (Business Day) -- As long as the gold price is climbing, it is easy to find a long list of reasons why it should continue to do so. The same is true when the price is sliding.
One of the apparently incontrovertible arguments put forward when gold was in a bear phase in the early 1990s was that the huge above-ground stocks of bullion - compared to which current gold mine production is tiny - would always put a cap on the price. Unlike other metals, which have various industrial applications, gold’s only manufactured form, other than a little use in dentistry and electronics, is in jewellery.
Like central bank gold holdings and private hoarding, jewellery will come back into the market in the form of scrap when the gold price is high enough.
Paul Walker, CEO of independent metals researchers GFMS, said at a presentation in Johannesburg last week that the above-ground stocks argument was essentially a naive interpretation of the market. It ignored the fact that the acquisition price and the margin structure attached to gold would drive the price upwards.
Gold jewellery usually contains a retail and manufacturing margin of 400%-500%, which means the price at which customers can sell it at a profit will rise continually.
The downside in this argument was the amount of gold held in the form of exchange-traded funds and privately held coins, where margins were lower and the gold was closer to the market, he said.
But GFMS believed investor interest in gold would remain strong as investors were seeking direction from the U.S. market and the dollar.
Certain more discerning investors had identified the mispricing of risk in the global economy and were buying gold as a hedge against those risks, Walker said.
Classic Business Day looks at buying the gold miners versus the underlying metal with James Muir from Global Trader, Lavan Gopaul from Cortex Securities and Garth Mackenzie from BoE Stockbrokers.
LINDSAY WILLIAMS: Here’s a conundrum! What do you do with the gold price at $674 an ounce if you’re sitting with a pile of cash? Because we live in an enlightened society - hopefully more enlightened in the future - you will be able to get your money in and out whenever you like, and you will be able to go to a broker in New York and request 100 ounces of gold via the Commodities Exchange. So you will be able to buy gold futures, contracts for difference (CFDs) and anything else you like in order to expose yourself to the yellow metal itself, or does one say Bernard Swanepoel from Harmony has a winning smile so let’s buy those shares instead because maybe we will get better gearing and a better bang for our buck? So that’s the big debate - the shares versus the underlying metal. James, there’s a great case from my point of view to actually buy the metal itself through some derivative - if the euro for example strengthens against the dollar, then the dollar price of gold is going to go up - but if the rand strengthens the shares won’t do so well. What are the positives of buying the metal?
JAMES MUIR: Obviously if you’re buying the metal you are directly in there - so that’s what’s going on at the various exchanges, and what’s happening directly with the metal. The gold shares obviously have that currency exposure - depending on whether the rand is strengthening or weakening.
LINDSAY WILLIAMS: If somebody wanted to invest in gold, the metal, in terms of its U.S. dollar performance - could we do it through Global Trader and through CFDs?
JAMES MUIR: Absolutely. You would be on our spreads platform - which a futures-based platform for gold, silver, platinum and the various metals that we offer. We offer CFDs for companies like Harmony and your local gold companies for South African clients.
LINDSAY WILLIAMS: So basically if I’m saying that gold at $674 looks to cheap to me and that it’s going to go to $700 I can come to you and I can buy gold at that price - and if it goes to $700 an ounce I take my profits?
JAMES MUIR: Absolutely. That’s in a contract form - a three-month rolling contract which is obviously quarterly. So yes, you can get stuck in there right way.
LINDSAY WILLIAMS: That seems fairly simple for me. I think the gold price is going up. Do I really think that for example DRDGold is going up? Lavan, should we go for Harmony [NYSE:HMY], DRDGold [Nasdaq:DROOY], AngloGold Ashanti [NYSE:AU] and the rest or do we just get the pure exposure?
LAVAN GOPAUL: I’m a very big fan of getting involved in gold shares - I think trading them is probably the way to go. I believe that single stock futures are the correct route - this gives you huge gearing on shares that are listed on the JSE. You are able to buy futures contracts over them with stockbrokers that are registered in a contract that’s controlled and regulated by the exchange, and that gives you great gearing. In terms of having the ability to play the yellow metal currently you are able to play tracker funds as well as the exchange traded funds (ETF) on gold, and this is calculated in rands. Over the next two months you will be able to trade a rand dollar exchange rate futures contract which thrown together with that gold contract will be able to synthesise a dollar gold position - and this is all under the watchful eye of the JSE. I think that’s probably the way that the private client should go.
LINDSAY WILLIAMS: Garth Mackenzie is a derivatives trader and stockbroker that’s well versed in both. Garth, what do you think of those two arguments? If you were bullish of gold right now thinking it’s going to $700 would you rather buy Harmony or the gold price itself?
GARTH MACKENZIE: I think you need to take a look at your timeframe, and ask yourself over what timeframe you expect the gold price to go to $700 and what you expect Harmony to do at the same time. In the very short-term I would probably go with naked exposure to gold - the gold shares do have all sorts of other problems that you mentioned including the rand, labour problems, increasing costs, etcetera. In the relatively short-term the gold shares do seem to be underperforming the gold price, but remember over the long-term the gold shares ultimately pay dividends that you can reinvest into these companies. I think over the longer-term you would do better in gold shares rather than in the metal. Remember that metal doesn’t pay you anything - if you have Krugerrands they don’t pay dividends, and in fact if you look at it over the long term the metal has probably been a shocking investment.
LINDSAY WILLIAMS: James, contracts for difference (CFDs) are essentially futures - they’re highly geared and highly dangerous, and the CFD is for the sophisticated investor. What sort of investor is coming to Global Trader at the moment, putting their money on the table looking for the exposure we’ve been speaking about?
JAMES MUIR: As it happens the CFD is a spot-based product and is not a futures-based product, and there’s obviously no roll over with this kind of product.
LINDSAY WILLIAMS: But the CFD is a geared instrument just like a future?
JAMES MUIR: It is a geared derivate, absolutely. You can track CFDs on the open market as you would a regular share - which you can’t with a single stock future - and that provides us with more transparency in this particular instrument, which single stock futures (SSFs) don’t have. That’s why Nedbank and the other banks are getting involved - it’s giving their clients more transparency to do the same trades on a geared level that single stock futures have up until this point have provided.
LINDSAY WILLIAMS: One of the things that Lavan Gopaul in Durban spoke to us about was the fact that if you trade single stock futures or if you trade the underlying share you are in a highly regulated environment - in other words you’re safe as you’re with a stockbroker that’s a member of the JSE. With CFDs do you have the same sort of protection?
JAMES MUIR: Indeed you do. Your money is absolutely 100% safe held in a segregated trust account. The shares are based on the underlying shares that are traded on the JSE - so you’re absolutely hedged in the market. We have institutional clients getting involved - there’s funds - and the big banks are starting to offer the product and that’s also the giving the product more credibility. We are regulated by the financial services authority and the Financial Services Board so you’re safe in trading a CFD.
LINDSAY WILLIAMS: Lavan, what do you say? You’ve got the protection according to James Muir from Global Trader of various regulatory authorities - do you still prefer to go with the single stock future?
LAVAN GOPAUL: I have a number of friends that are involved quiet seriously in the CFD market - and they’re very credible and intelligent advisors - but I would advise a client to go the way of SSFs on a regulated market. Why try to reinvent an exchange when a very successful exchange exits? The argument for single stock futures works well in regulated industries and regulated countries, but there are nations throughout the world where for whatever reasons a gap exits and CFDs come into play. Where a regulated and controlled environment exits and it’s something that’s been very successful - I think that’s the way to go. The futures market is not a very complicated place - it is a reference over the spot price. CFDs in a sense are a bet over the share as opposed to a formalised futures contract.
LINDSAY WILLIAMS: Garth, are banks like your own getting involved in CFDs?
GARTH MACKENZIE: Yes, we are getting involved, and I think a couple of the other banks are also likely to get involved soon. CFDs are a very similar instrument in I suppose in a way to a SSF - the main difference really is that you’ve got to roll over a SSF future every three months, whereas with a CFD you don’t. However with CFDs generally your funding rate is a little bit higher, but it comes out more or less the same over a one-year period trading a CFD or a SSF. We are quite big on SSFs but we are moving into the CFD arena. The counter-party risk issue is something which some of the bigger players might look at, but James Muir is right in that your money with the CFD issuer is generally held in a segregated trust account - so it should be separated from any problems that may or may not arise at the CFD issuer so I don’t see that as a big risk.
LINDSAY WILLIAMS: So there’s more choice for the consumer - just be careful with any geared instrument. Always put your stop losses in - and understand that you can lose more than you actually put in. |
