Gold still sparkles while silver linings offer a safety net

How to maximise gains and minimise risk in the new bull market for gold.

At the end of last year even this gold bull was close to throwing in the towel. Such pessimism is typical of market bottoms, as indeed this proved to be with gold gaining around 25 per cent in value since then and starting the year with its best rally in three decades.

Over the past month silver prices have caught up with the party and outperformed gold.

At the time of writing silver was up 29 per cent year-to-date.

That looks like a confirmation of a breakout from the four-year bear market in precious metals.

From a technical standpoint the 20-week moving average gold price has crossed the 50-week moving average, a normally definitive indicator of a new bull market.

Of course you still don’t have to look far to find bearish analysts who say gold will still retest recent lows, although the pack led by Goldman Sachs looking for $800 to $900 an ounce have fallen notably quiet. Markets do climb a wall of worry, after all.

But if you are looking for a way to maximise your gains from this new bull market then you might have noticed that the share prices of gold and silver producers and exploration companies have jumped in value by far more than bullion since the beginning of the year.

Comparing the price of Exchange Traded Funds (ETFs) is a simple way to demonstrate this.

The GDX basket of major gold producer shares is up 88 per cent and the GDXJ basket of junior gold companies is up 100 per cent.

Some individual companies have done much better. The Canadian giant Kinross Gold has more than tripled since the start of the year and another major name, Yamana, is not far behind.

Still, if you are not a stock picker or notice that tippers tend to tell you what has happened rather what will happen next, then how about doubling up on your bull market gains with silver, which almost always soars ahead of gold in such market conditions?

From the bottom in March 2009 to the tops in 2011, gold tripled in price, while silver rose almost six-fold.

If you want to be really adven­turous then the shares of silver producers are the way to go. At the moment the ETF for major silver producers SIL is level pegging with gold’s GDX. But the ETF for silver junior companies SILJ is up a stunning 169 per cent since January 1. So if you want to leverage up in the new bull market for precious metals, then buying the shares of the producing companies is the way to go, either by stock picking or via the ETFs.

Why does a rising price of bullion have a disproportionate effect on producer share prices?

Well, basically their costs remain fairly sta­tic, while rising metal prices feed straight through to the bottom line, and speculators know this.

However, you may also want to minimise the risk of your exposure to the new bullion market. Perhaps at the back of your mind you still think interest rate rises are likely in a US election year with GDP growth almost flat.

Maybe you are just cautious by nature and remember the disappointments of the past four years for gold investors.

In that case instead of buying physical gold, what you could do is invest proportionately less in one of the more highly performing ETFs mentioned in this article.

For example, as SILJ has returned seven times more than gold bullion so far this year you might choose to invest one seventh of the amount you wanted to put into gold and possibly achieve the same result.

Of course nothing is ever totally guaranteed or without a downside risk, and your penalty for doing this would come if bullion moved back into a bear market as the shares would show a bigger shift to the downside in value than the underlying precious metals.

What could go wrong for bullion prices? True in 2008-09 when global stock markets last crashed so did gold and silver, though that was rather unusual as in more normal market corrections bullion rises in value as a safe haven.

That said, gold and silver are still trading at serious discounts to their 2011 highs of $1,923 and $49 an ounce respectively, and in a world where most asset price valuations are looking very stretched, they to some extent standout as a rare and obvious bargain.

Peter Cooper has been a senior financial journalist in the Gulf for the past 20 years