The price movement of silver is similar to that of gold, London-based Naylor-Leyland told FSA on a recent trip to Hong Kong. There is a correlation between bond yields and the gold and silver price. As real yields fall or remain low, the prices of these metals tends to rise.
Because these two metals are traded on the currency market, their prices are not at all determined by the metal’s supply and demand balance.
“Silver is being exhausted, consumed and used everywhere. And despite the fact that every year more silver is consumed and less silver is mined, the price does not go up like a rocket.”
The daily turnover of silver is only $25bn, about one-tenth that of gold, he added. “If capital is trying to get in, you want to [already] be in silver, because it’s a shallow pool. It gives two-to-three times [price movement] than gold does,” he noted.
Naylor-Leyland believes that silver and gold are at the start of a bull cycle because inflation is not meaningful.
“The earlier jump of core inflation in the US was driven hugely by the strong bounce in energy prices. My view is that as the macro economic data is poor and worsening, and [the central banks] cannot deliver the rate hikes that the market expects, which is positive for gold.”
He has been holding gold and silver mining stocks in equal percentages, together comprising about 80% of the portfolio since the fund launch in March 2016.
He believes the only risk to the portfolio is if interest rates rise faster than the inflation rate. Then the gold price drops because cash will deliver a real return. However, he believes such a scenario is unlikely and the US Federal Reserve remains reactive to inflation rather than trying to anticipate it.
Gold mining stocks
During the last super cycle of gold from 2002 to 2011, when its price went to $1800 from $300, he said that gold miners did not profit much because their costs were going up faster than the gold price.
In the current situation, however, Naylor-Leyland believes the mining industry is set grow earnings.
“Now you have cost deflation, where the costs are flat or falling. [Costs] are made up of energy prices, fixed costs that are linked to foreign exchange, and the capacity of the mining sector. All the capacity built up during the last commodity supercycle is now set.”
There has also been consolidation in the sector. “We have seen 7-8 deals in the last six months.”
He said the sweet spot of gold mining stocks are mid-caps with market capitalisation between $2-$5bn. The smaller companies might have liquidity issues, he added. The fund also focuses on companies mainly in the Americas and Australia.
“We purposely narrow the investment universe. No Africa. No Russia. All it does is to add a lot of work and risks. I don’t understand the geopolitics in Africa, it’s a complicated place to operate.”
The biggest holding of the fund is Central Fund of Canada, a close-end bullion fund accounting for 9% in the portfolio. He said the fund does not invest in gold ETFs.
Bullion funds are preferred as they have better custodial practice to cater the demand for banks, and sometimes they have discounts to the net asset value (NAV), as compared to ETFs which are always traded on par to the NAV.
For instance, the Central Fund of Canada is trading at a 7% discount to its NAV, he noted. Even when it is trading at a premium, he will turn to other bullion funds that are trading closely to the NAV.
Performance of the Old Mutual Gold and Silver Fund since its launch in March 2016, versus the gold spot, the fund’s benchmark, and the silver spot price, according to FE.
