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Why Some Smart Investors Hold Gold

Jason Stipp

Jason Stipp: I'm Jason Stipp with Morningstar. We're here at the Value Investing Congress in Pasadena, and I'm here with Lloyd Khaner. He gave an interesting presentation about why some very smart value investors are buying gold. He did some research into gold, and he's here to tell us a little bit about what he found.

Thanks for joining me, Lloyd.

Lloyd Khaner: Sure, my pleasure.

Stipp: So first question for you: Can you just give us a quick recent history of what you've seen in gold prices--where we are now compared to where we've been in recent history?

Khaner: Sure. You could certainly say that since 2000 you've seen a sharp move up in gold. Not exactly a bubble, but a move from roughly $250 per ounce to $1,100 per ounce. So it's been a pretty sharp move. The question is, is the bubble over or not? And there are a lot of people who believe that we have a lot higher to go.

Stipp: Sure, and I think an interesting question from a value investor's perspective is that as value investors you like to look and see what is the true intrinsic value of an asset. Then you buy it when it's cheap and when it has good prospects and when the market will eventually come around to your way of thinking.

How do you get comfortable with a valuation on something like gold?

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Khaner: Clearly, you can't find intrinsic value for gold, for the metal itself. If you can look at some of the gold mining companies, and you look at their net asset value, factoring in the price of gold currently, then you can do it. But this is one of those things, where you think there's an asset that has more value, but it's a commodity, and you really can't ascribe an intrinsic value to a commodity.

Stipp: There are some reasons, some drivers, that people point to about why gold has gone up and why it continues to go up. What are some of the major ones that you found as you were looking into this?

Khaner: Most certainly fear of inflation, and inflation's going to come. If it comes, that's one for sure. Oil prices going up--oil spikes are often followed by spikes in the price in gold. Some people think that we're going to have deflation. We might have a little bit right now, and they believe that drives the price of gold. I don't, but that is certainly a reason that some people are pointing to as to why the price of gold has gone up so much.

The biggest reason, of course, is currencies, devaluing currencies, fiat currencies.

Stipp: You read a lot when you type in "gold investments" into Google. You'll some very interesting websites with some very interesting ideas about what's going to happen to the world. Is there anything to those arguments--the apocalypse, the armageddon arguments? How do you sort of think about those as you're investing in gold?

Khaner: First, I hope not.


Khaner: But there is certainly a very large group who buy gold because they think the world is almost going to come to an end, and then they're going to have all the gold. I think that does drive the behavioral aspect of the price of gold going higher.

And there are people who think we are in global situations, both financially as well as wars and other things that is very precarious. The volcanoes don't help, and oil spills don't help, and ice caps melting scares people. They want to grab on to something that's physical, that they can use as currency or trade, and gold has done that for over 5,000 years.

Stipp: So a lot of different reasons people might be buying gold, people might be going into gold. If we are in a bubble. How do you know when we've ridden it, time to get out?

Khaner: You never know. That's the problem with bubbles, because they're great while they last but when they break, they break hard.

It's something called the negative feedback loop. George Soros talks about it. Basically, if you track the things that are right now driving the price of gold higher, if you see one or two of them get debunked... Meaning, in general people stop believing that inflation's going to be higher, or deflation, or one of the things gets debunked, and you see the price of gold drop and not rise back, that could be a signal that the bubble is over.

That happens to all bubbles. If this is bubble, and I believe it is, it might grow bigger. At some point, the negative feedback loop starts and the price will drop quickly.

Stipp: Sure. If you decide you do think gold has some more room to run, you want to invest in gold, what kind of things should you look for in a gold investment, to take some of the potential investment risk specific to a type of investment out of the equation?

Khaner: I would point people towards the gold ETFs, the exchange traded funds. They're liquid. Whether you want to do a fund that's just tied to the price of gold, or to gold mining companies, this way you're not just picking an individual company because that's very hard to do. You find an ETF that you can just buy into. You can sell it whenever you want, and you're not taking company-specific risk.

Stipp: Sure. Lloyd Khaner from Khaner Capital, thanks so much for joining me, and for your insights into gold today.

Khaner: Thank you.

Stipp: For Morningstar, I'm Jason Stipp. Thanks for watching.