Fri, 14 Dec 2012
Although gold equities have lagged the performance of bullion, miners will do a much better job of executing and delivering margin expansion to investors, says Fidelity's Joe Wickwire.
Janet Yang: Hi, I am Janet Yang, a mutual fund analyst here at Morningstar. Today I have with me Joe Wickwire from Fidelity. Joe is the portfolio manager of Fidelity Select Gold.
Thank you, Joe, very much for joining us.
Joe Wickwire: My pleasure. Thanks for having me.
Yang: I was thinking maybe we start at the high level in terms of what's been going on with gold funds and with the equity precious metals area, in general.
If you look at the past 10 years, I think, investors have enjoyed double-digit returns for almost every single one of those years; 2011 was an exception. It looks like 2012 is going to be, as well. At the same time you have gold bullion, physical gold, still kind of continuing that streak. Can you maybe talk about why there has been this kind of disconnect between gold equities and physical gold? I think when we look at year-to-date numbers, for example, the average gold miner or the average gold fund is trailing gold bullion by about 11 percentage points.
Wickwire: What you are pointing out--the disconnect between the gold equities and the performance of gold bullion--is in fact the third time it has happened over the last 10 years. It happened in 2004 and 2005 for roughly 17 months, and it ended in May of 2005 when the French and the Dutch voted down the European constitution. It happened in a truncated fashion in 2008 due to the financial crisis. And then it's happened again over the last year and a half. I think that in May of this year the gold stocks ended another 17-month period where they underperformed the gold bullion and have since done much better, especially over the summer when the gold stocks moved up roughly 30% versus a 10% move in gold bullion.
So, the question is, why did we have these periods where you get this disconnect? And it happens because stocks are forward-looking mechanisms. So, when the market has a degree of skepticism about where the gold price is going or it doesn't believe the gold companies are going to be able to deliver margin expansion against the backdrop of a rising gold price, then the gold stocks typically put in a period of underperformance versus the gold bullion.
Now, as in 2004 to 2005, when that period ended the gold stocks put in a period of two-and-a-half years of outperformance versus the bullion, and in 2008 the same thing happened--after a period of underperformance you had another two-and-a-half years of outperformance of the equities versus the bullion. And I think again ending in this most recent period--where I think May was probably the bottom for the more recent period of disconnect--I think we are set up for a period where the gold stocks should put in a period of outperformance versus gold bullion because I do want to believe that gold is still biased to the upside. And I think the gold companies are going to do a much better job of executing and delivering margin expansion to investors, especially potentially against a backdrop of an investible universe where maybe margin expansion is not going to be as widespread as perhaps in the gold space.
Yang: It seems like the gold miners have heard the investor discontent with the returns. One way they've been following up on this is by increasing dividends, and we've seen some innovative dividend policy coming out with some companies linking dividends to gold prices. Can you talk about how you look at kind of these changes as it relates to how you manage the fund?
Wickwire: Certainly, and I'm also proud to be one of the people who is probably responsible for that. As one of the largest gold investors, I spend a lot of time talking to the management of the gold companies about how they can better execute and how they can better make a compelling case on why you want to be the owner of a gold equity; and not only better operational execution, but also better capital discipline.
And in a world where we have negative real interest rates, where we have low real yields, where investors across the board are struggling to meet their income needs, one of the ways that gold companies can prove their worthiness or should raise the level of interest that investors should have in gold companies is for them to do a better job from a capital-allocation standpoint. And when they're generating free cash flow and they've provided for the growth of tomorrow, [they should] look perhaps at putting some of that free cash flow back in the hands of investors and not only contributing a risk/reward profile that should be consistent with why somebody would have a gold equity in their portfolio, but also have a component of that total return, a contribution from an income standpoint, that helps people who are looking or seeking yield in a low- to negative-yield world.
So, again, I have been a very big advocate in talking to the managements and boards of the large gold companies around the world and sharing my perspective, in that I think that would be one way they could heighten the relative appeal of having their companies in a portfolio that would be a combination of better execution and better capital discipline in contributing to the income needs of investors.
Yang: One thing that's actually pretty unique about your fund compared with your other equity precious-metals peers is that you tend to hold a small stake in physical gold. Can you tell us kind of what that physical gold is for, what purpose that serves in the portfolio?
Wickwire: Sure. We have the ability to invest directly in gold bullion, and we have gold bullion on allocated basis for my shareholders. And this is something that I've been doing for the nine years that I've been running gold precious-metals money. The gold asset class serves a specific role in a risk-tolerant portfolio. What I'm trying to do for my shareholders is give them the best possible risk/reward experience in the gold asset class space that I can possibly have.
Having some bullion in the portfolio is quite consistent with the role of the asset class in a portfolio. And typically gold is the most liquid component of the gold investor universe, right? So, it's a great way that I can equitize the cash in my portfolio. If I want to go low beta in the portfolio, it's another way to dampen volatility of the portfolio. If we go through a corrective phase or a period where I think the gold equities aren't offering a compelling risk/reward profile, I can be true to the investment mandate for my shareholders investing in something that's very liquid. And then when the risk/reward profile for the equities gets better, I can redeploy out of the gold bullion and into a better risk/reward profile.
It has a lot of application from a tactical standpoint, while staying very true to the investment mandate I'll define for my shareholders. So, it skins a lot of cats by having it in the portfolio, and another benefit of having it is the dialog that I get to have with the bullion banks. Since we are buying the physical gold and we're buying it from the bullion banks, I can get on the line with any bullion bank and get a pretty good read of what's going on in the physical market. And that helps not only my decision on buying the underlying physical asset, but it helps obviously as a bank shot to the gold equities.
Yang: Well, thank you, Joe, very much for your time.
Wickwire: Thank you.
Yang: Really appreciated it.
Wickwire: My pleasure.
Yang: For Morningstar.com, I'm Janet Yang.