Is gold preparing to break out to the upside?

Global equities, as measured by the MSCI World Index, have gained over 70% since the March 2009 low. With data indicating that the global economic recovery is picking up speed, it is no wonder gold is attracting relatively little attention.

While investors wax lyrical about the remarkable recovery in equity prices, many forget the MSCI World Index is still 27,9% below its October 2007 peak, says Dr Prieur du Plessis, Plexus group chairman.

“The index is currently trading only 4,3% higher than its level five years ago,” says Du Plessis. “An investment in the MSCI World Index, with dividends included, would have yielded a paltry 3,5% per annum over the past five years ended 31 March 2010.”

Gold, on the other hand, has been in a strong bull market for the past ten years, rising from US$250 in 1999 to a current level of US$1146. “This equates to a very handsome return of over 15% per annum,” says Du Plessis.

The precious metal pulled back to below the $1 100 level in December 2009 when the dollar initially started to rally and it has been toying with this level since the beginning of 2010. However, in recent price action, gold has surpassed the $1 100 level once again in the face of continued dollar strength. Du Plessis believes this is highly significant and could signal that gold is preparing to break out to the upside.

“While a significant amount of gold’s rise can be ascribed to the demise of the US dollar, with more and more people losing faith in the world’s reserve currency due to a mountain of debt and Government’s policy of printing money out of thin air to keep the US economy afloat, gold has also been rising in most other currencies over the past year or two.”

In rand terms gold has outperformed the South African stock market handsomely over the past five years ended 31 March 2010, yielding a return of 24,9% per annum versus the FTSE/JSE All Share Index’s 19,9%. “This was achieved despite the Rand’s recent strength,” says Du Plessis.

“Despite the continued global economic expansion, investors are concerned about the medium-term outlook,” says Du Plessis. “It is unclear what the effect of China’s efforts to cool its economy will be on the global economy, especially in light of debt problems in the eurozone. Added to this is the enormous US budget deficit, reckless money printing resulting in looming inflation and a fiat currency of which the world is growing more sceptical.”

According to Du Plessis, these factors are positive for gold. Is it too late to jump on the band wagon? “No,” he says. “A measure of exposure to gold in one’s portfolio is good insurance against the uncertainty that still prevails. But gold is notoriously volatile and one should acquire exposure to gold on price weakness. Investors should also preferably have a long-term investment horizon.”