By Bill Mann - December 10, Throughout most of history, gold has been a widely accepted medium of commerce. Only in the past few decades has fiat currency supplanted the gold standard as the world's primary basis of commerce and banking. Gold is one of the few universal "stores of value" that has little exposure to the whims of central bankers around the globe.
Still, holding gold in a portfolio is a source of significant controversy among value investors. Unlike silver, copper, and platinum, gold has minimal industrial application -- its value is derived, essentially, by the willingness of individuals, governments, and corporations to hoard it.
Proponents view gold as a hedge against extreme events such as spiraling inflation, while opponents argue that it isn't a rational investment choice since it doesn't generate income. Naturally, both have it at least partially right. Gold's rise in price this decade has gone hand in hand with concerns about the value of the U.
However, should a global economic recovery commence and the perception of risk decline, gold prices should tend to fall. Historically, the price of gold has fluctuated widely, and the gold market has experienced extended periods of flat or declining prices. In addition, because of the perception of risk, many factors can affect the price of gold, including currency exchange rates, interest rates, and the investment and trading activities of hedge funds and commodity funds.
We offer no opinion on the attractiveness of gold or of gold-mining companies. Investors traditionally have had two ways to gain exposure to gold: Recently, a third method has emerged -- buying gold-linked exchange-traded funds, such as SPDR Gold Shares GLD. These ETFs have made owning gold markedly easier, since they don't require individual investors to either insure or store physical bullion. Instead, the manager arranges for the gold to be stored and insured, and the individual investor owns shares in the underlying bullion.
If you want to own gold, why not just own gold? Conventional wisdom holds that gold-mining companies offer a leveraged way to own gold. If you believe that the long-term trend is for gold to move higher, then it's logical to assume that mining companies would appreciate more than gold bullion would, since mining companies typically own assets purchased at an earlier time, when gold prices were lower.
In addition, the cost of extracting and bringing gold to market is a fraction of the current gold price. In theory, therefore, when gold prices rise, the gold miners should appreciate even more, because each dollar gain per ounce has a higher-percentage impact on the miners' profitability.
That's why many investors favor miners over gold bullion when they want to gain exposure to an expected rise in metal prices. Of course, the reverse is also true: When gold declines in price, the loss in economic value is amplified for the mining companies. Of course, things that seem logical on paper don't always hold true in the real world. In fact, over the long term, gold bullion has appreciated more than the most popular index of gold-mining companies has. Although many individual mining stocks have outperformed the market substantially, many others have lagged.
Looking at the performance of gold versus the Chicago Mercantile Exchange's index of gold mining stocks GOX over the past 15 years -- a time during which gold has shown significant appreciation -- we see that the metal itself has generated higher returns Figure 1.
The white line represents the spot price of bullion, and the green line shows the GOX index.
Figure 2 shows a breakdown of the index. For investors seeking exposure to gold in their portfolio -- whether for speculating on the commodity price or for locking in some insurance against disaster -- it makes sense simply to buy gold, either physical metal or through an ETF.
Subscribe to read
But if investors do wish to buy individual mining companies, prudent stock selection is critical. Why you might choose to own gold miners Of course, there's a catch: One of the intrinsic problems with gold investing is that it's a straight speculation on the price of a metal that doesn't do very much.
Unlike silver or even platinum, gold has few industrial uses, so investing in it is akin to participating in the ultimate Keynesian beauty contest: You just hope someone comes along to buy it for more than you paid for it. The miners, on the other hand, do have a use -- they generate cash flow through their operations.
They're also usually not pure plays on gold. Most generate a fair amount of revenue from mining byproducts such as copper, zinc, molybdenum, and lead. So if investors believe that the market has undervalued a mining company's operations and its reserves, they may choose to invest in the miner irrespective of their opinion on the price of gold, especially if they believe there will be a high demand for the base metals the miner also produces.
What's more, a mining company blessed with a management team that allocates capital shrewdly and has a consistent track record of exceeding production estimates may be attractive if its price is close to net asset value. Why owning miners is entirely different from owning gold Many investors choose to own a mix of physical gold and gold ETFs and notes along with gold-mining stocks, but we believe that investing in gold-mining stocks should be treated quite differently from investing in gold bullion or its equivalent.
Although gold miners do show a substantial correlation to the price of gold, as one might expect, investing in the miners is still a bet on their operating earnings, which depend on their ability to continue to produce gold at a reasonable cost. But more to the point, one has to remember what an investment in gold represents: The extreme financial distress many countries currently face lends credence to the necessity to hedge one's bets. For example, the U.
These worries are also the reason that gold bullion is probably a superior bet to the miners under such a scenario. As we've seen time and time again though to our gimlet eyes it seems that we've entered the "golden age" of such behavior , governments under financial distress sometimes start casting wide nets to generate revenue to keep themselves afloat, and gold itself is not a particularly easy target.
We've seen what happens in times like these. Congress began debating windfall profit taxes for oil production and service companies. Russia's oil taxes remain extraordinarily high and are roughly indexed to the price of crude -- the higher the price, the bigger the government's take. Following the devastating earthquakes in , Turkey raised taxes on cellular communications, and it has not reversed them.
South Africa, itself a major gold producer, has for years debated special profit taxes on its oil companies. And Canada elected to reverse tax rules on oil trusts in , when it determined that the existing statutes had cost the government billions in lost receipts.
There are plenty of reasons to own gold miners, of course. But it's our opinion that if you're looking at the gold sector for insurance against disaster, the best way to do so is through exposure to bullion itself.
June 12, Domestic consumer stocks are having a tough year. June 12, Technology stocks surged in May, and our international fund surged along with them. June 12, Another great month for international stocks led to another great month for our global fund. The Adviser has contractually agreed to pay, waive or absorb a portion of the Fund's expenses through the end of February , or such later date as may be determined by the Funds and the Adviser.
The next step is just as easy. Open your Motley Fool Funds account online in minutes and get invested right now! The performance data quoted represents past performance and does not guarantee future results.
Current performance may be lower or higher. The investment return and principal of an investment will fluctuate so that shares, when redeemed, may be worth more or less than their original cost.
A redemption fee of 2. The redemption fee is not reflected in the quoted returns.
See additional performance information about each fund at these links: Independence Fund , Great America Fund and Emerging Markets Fund. Any discussion of individual companies on this page is not intended as a recommendation to buy, hold or sell securities issued by those companies. The holdings of Motley Fool Funds may change at any time and are subject to risk. Current and future portfolio holdings are subject to risk. Value investing focuses on companies with stocks that appear undervalued in light of factors such as the company's earnings, book value, revenues or cash flow.
Gold Mining Stocks vs. Physical Gold Bullion | Telling the Difference
If the Adviser's assessment of a company's value or its prospects for exceeding earnings expectations or market conditions is inaccurate, the Fund could suffer losses or produce poor performance relative to other funds. In addition, "value stocks"; can continue to be undervalued by the market for long periods of time.
Emerging market countries present risks in addition to and greater than those generally associated with developed foreign markets such as lax government regulation and smaller, less liquid securities markets. Investing in securities of foreign companies involves risks generally not associated with investments in securities of U.
S companies, including the risks of fluctuations in foreign currency exchange rates, unreliable and untimely information about the issuers, and political and economic instability. Investments in securities of small-cap companies involve greater risks than do investments in larger, more established companies, because they may lack the management experience, financial resources, product diversification, and competitive strength of larger companies.
Our monthly e-letter, Declarations , features news, commentary, and the latest thinking from Motley Fool Funds' portfolio management team Get your FREE subscription today! Want to ask the portfolio management team about Motley Fool Funds? They'll respond in a Question Authority column. Send your question now. Please consider the charges, risks, expenses, and investment objectives carefully before you invest.
Please see the prospectuses for the Independence Fund , the Great America Fund , or the Emerging Markets Fund containing this and other information. Read it carefully before you invest or send money. Use of this website is governed by the Terms and Conditions. The content contained on this website is provided to users "AS IS" without any express or implied warranty.
Privacy and Security Email Subscription Notice to Non-U. Open an Account Help Contact Us Search Search. Insights Gold Or Gold Miners? In extreme economic times, the risks for each become markedly different.
Lastest Insights Motley Fool Great America Fund Results: May Monthly Results June 12, Domestic consumer stocks are having a tough year. Motley Fool Emerging Markets Fund Results: May Monthly Results June 12, Technology stocks surged in May, and our international fund surged along with them.
Motley Fool Independence Fund Results: May Monthly Results June 12, Another great month for international stocks led to another great month for our global fund. Bill Mann Invest Now! Insights by Type Insights Event Wandering Fools Letter to Shareholders Proxy Vote Monthly Results Shareholder Meeting Monthly Results From the Desk of MFAM Question Authority Conference Call Insights by Author Bill Mann Bryan Hinmon Bill Barker Morgan Housel Peter Jacobstein Matt Trogdon Nate Weisshaar David Meier Charles Travers Anthony Arsta Timothy Hanson Fool Funds Staff Denise Coursey Insights by Year Get Our Latest Declarations, Delivered!
Investors Motley Fool Funds are distributed by Foreside Funds Distributors LLC, Berwyn, Pennsylvania.