The price of gold seems stuck at low levels with no recovery in sight. While you might hold some gold stocks for diversification purposes, remember gold’s drawbacks.
Gold trades at US$1,173 an ounce. This is far below the peak price of $1,908 an ounce it reached on August 22, 2011. Then again, the price has stabilized and is expected to average $1,200 an ounce in 2015.
Five reasons to avoid gold stocks
One factor working against gold is the rise in the U.S. dollar. The price of gold usually moves in the opposite direction of the U.S. dollar.
A second factor is low inflation in many countries and deflation in countries such as Japan. Low inflation and deflation hurts the price of gold.
A third factor working against gold is better government finances in North America. This lessens the risk of debasement of both North American dollars.
A fourth factor is that gold produces no income. Worse, one must pay for safe keeping.
A fifth factor working against gold is sales by the International Monetary Fund. Selling gold enables the IMF to raise cash and assist countries.
The price of gold is notoriously cyclical and unpredictable. The industry itself didn’t foresee the most recent plunge in the price of gold.
Six reasons to buy gold stocks
Other factors raise the demand for gold. One is the popularity of gold jewelry, especially in China and India—which account for 63 per cent of the global demand for jewelry. As middle classes in emerging markets grow, so will the demand for gold.
Second, low interest rates cut the ‘opportunity cost’ of gold—interest that cash would otherwise have produced.
Third, some investors distrust paper currencies and prefer to hold gold. This raises the price of gold.
Fourth is higher demand by the ‘official sector’. That is, many central banks would rather hold reserves of gold instead of reserves of dollars or euros.
Fifth, a lower price makes it less profitable to produce gold. It can shut down marginal mines. Lower prices tend to depress gold scrap recoveries. Lower supply is supportive of gold prices in the long run.
Sixth, there are fewer short sales. Short sellers borrow gold, sell it and hope to replace it if prices are lower. They pocket or lose the difference between the price at which they sell and buy back. With the price of gold stuck, short sales lose appeal.
Six gold stocks to buy
Of the 15 gold producing stocks we monitor, we have six buys: senior producers Agnico-Eagle Mines (TSX─AEM), Barrick Gold (TSX─ABX), Goldcorp (TSX─G) and Newmont Mining (NYSE─NEM) and intermediate producers Centerra Gold (TSX─CG) and Semafo (TSX─SMF).
Alternative investments to gold stocks include gold exchange traded funds or gold bullion. Just remember that given gold’s drawbacks, it’s best to hold only a little to diversify your portfolio.
The Investment Reporter, MPL Communications Inc.
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