Helen Morrissey explores the allure of gold as a diversifying tool
When thinking about pension investment strategies, investing in gold is not something that immediately springs to mind. However, this is something that could change following gold’s stellar performance during the recent global downturn. While many asset classes saw returns plummet, gold posted positive returns.
This lack of correlation to other asset classes, particularly in difficult times, is a key reason why industry experts believe schemes should look to make an allocation to gold.
“If you look at the investment markets between 2000 and 2007 then markets were great,” said World Gold Council managing director – investment, Jason Toussaint. “We had risky assets like emerging markets making big returns and this lulled investors into a false sense of security as they thought this would continue. When the downturn came in 2008 investors realised that what they thought were diversified portfolios actually weren’t. Despite these issues gold was still one of the few positively generating asset classes in 2008 and so its role as a portfolio diversifier is key.”
In addition to being a key diversifying influence in a portfolio, gold also has other benefits according to Toussaint. “Firstly are concerns about inflation and secondly concerns about the US dollar,” he said. “Gold is a great hedge for both of those things.”
Toussaint was quick to point out that gold can be accessed in several different ways.
“Commodity basket type investing that gold forms a part of has been increasing since around 2000 to 2001,” he said. “So our challenge is not necessarily to bring gold out of left field, it’s more to demonstrate that gold is not like other commodities and needs to have a separate allocation.”
Gold can of course be accessed as a physical asset in the form of bars and coins but this approach also requires investors to insure it as well as make decisions on how to store and transport it.
The formation of gold exchange traded funds (ETFs) and Exchange Traded Commodities (ETC) around 2003 could stimulate investment.
ETF Securities, head of research and investment strategy, Nicholas Brooks said: “Before the creation of commodity ETFs and ETCs it was difficult for investors to access commodities in general and gold in particular as they would need to enter the futures market.”
“This requires a very sophisticated investment approach and just wasn’t an option for many schemes. The creation of gold ETFs has opened up commodity markets to a much wider number of investors than before. We’ve been dealing a lot with pensions funds in Europe and they seem to prefer more physically backed ETFs to those that track futures,” said Brooks.
The statistics seem to bear witness to this with ETF Securities holding around US$9bn of gold in ETC and global holdings of physically backed gold in ETFs and ETCs topping $50bn.
However, despite these developments institutional pension schemes have been slow to adopt gold as part of its portfolio.
While gold prices have soared recently, Towers Watson senior investment consultant Alasdair Macdonald said gold many not be the best option for many schemes.
“We have faced a lot of extreme risks in the markets but it is important to realise there are many different asset classes out there to help schemes tackle them,” he said. “Schemes need to ensure they choose the best and most attractively priced investments for their needs. You’ve also got to bear in mind that in historical terms gold is looking very expensive right now and if you look at gold supply versus natural levels of demand for it then there is a real mismatch there and schemes need to consider that before making an allocation.”
While European pension funds are still barely dipping their toes into the waters of gold investment, other investors are taking a bold approach. In February, Global Pensions reported that Chinese sovereign wealth fund, China Investment Corp. is using exchange traded funds to gain exposure to a diverse range of asset classes, including positions in gold ETFs through the Market Vectors Gold Miners fund and the SPDR Gold Shares.
In October 2009 the $95bn Teacher Retirement System of Texas launched the Global Best Ideas (GBI) Gold Fund, an internally managed fund with assets invested in precious metals mining stocks and ETFs. On launch, the fund had $250m assets under management making it a small but important part of the fund.
“We decided to launch as one problem with commodity benchmarks is they have a low exposure to gold – on average 4%,” said the scheme’s head of global research and GBI Gold Fund portfolio manager Shayne McGuire. “Gold acts differently to other commodities. If you look at 2008 we saw oil drop from $150 per barrel to $30 whereas gold was up between 3% and 5% that year. We wanted to gain exposure to less economically sensitive assets and we wanted to access gold in a pure way as it provides tremendous diversification benefits.”
So while there is not as yet much history of pension schemes investing in gold, the future does look bright. The long term investment horizons of pension schemes can make gold an ideal investment choice.
“Volatile investment markets have made pension funds just as focused on downside protection as it is on alpha protection,” said Toussaint. “In terms of investor activities – we saw substantial inflows and even though we’ve seen recovery in the equity markets we haven’t seen much in the way of outflows. I’m hoping this means investors are finally getting the message about gold’s role as a long-term asset allocation decision.”
The Next Generation Pensions Committee is on a mission to promote and encourage younger voices in the industry. Kim Kaveh looks at its key objectives
This week's top stories included an analysis finding the cost of equalising guaranteed minimum pensions in schemes could hit FTSE 100 profits by up to £15bn.
Employers whose dividend to deficit recovery contribution (DRCs) ratios fall outside the "normal range" should expect to see higher regulatory scrutiny, although no fixed ratio will be set.
Investment consultants and fiduciary managers should expect a final decision on the investigation into the market to be published by the end of the year, the competition watchdog says.