Gold Is the New High-Yield Investment
Many investors fail to grasp a simple fact: Gold is the new high-yield investment.
Bond yields are crashing in many developed countries.
Look at what has happened to two-year yields across Europe and Japan.
Two years ago, if you had put 100,000 euros into an Italian bond with an interest rate of 1.26%, you’d have ended up 1,260 euros richer. Today, that same government bond will leave you 410 euros poorer.
On the other hand, if Italians had put that same money into gold two years ago, they would have had a “carrying cost” because they weren’t investing in bonds. In other words, gold paid nothing, so investors lost out on the 1,260 euros they could have made.
Today, gold still pays you nothing. But today, holding bonds costs you money. And in the world of bonds, a difference of 1.3% is huge. HUGE!
So if you’re an Italian, which will you invest in? Negative-yielding bonds or gold?
And that’s how gold becomes the new high yield.
This isn’t an intellectual exercise. I had a chat with Rick Rule, president and CEO of Sprott U.S. Holdings, a few weeks ago. He told me his customers did this same calculation when they bought gold.
When U.S. Treasurys yielded 4%, a $100,000 investment in gold would cost a customer $4,000 – that’s the amount they’d miss out on by not holding Treasurys.
Now, two-year U.S. Treasurys yield just 0.746%. The carrying cost of gold is much, much lower.
Sure, that’s still a potential loss of $746 if the price remains flat.
However, yield is only part of return.
You also have to consider price appreciation.
We’ll use the SPDR Barclays Short Term International Treasury Bond ETF (NYSE: BWZ) as an example. It holds bonds with an average maturity of 1.9 years. The bonds in the fund are from many countries, including Japan, Italy, France, Germany and Spain.
Let’s see how the ETF, gold and the S&P 500 have done since the start of the year.
The ETF is up 7.4% since the start of the year. That’s not bad. It’s certainly better than the sad-sack S&P 500. But gold blows it away. Gold is up more than 21% – nearly triple the performance of the ETF. Wowza!
Mind you, I expect that bonds will continue to do well going forward. Perhaps for the rest of the year and beyond. That’s because there are serious risks to the global financial system. However, that is just the kind of environment that can light a fire under gold.
And Europe is gripped by deflation. Euro area annual inflation is expected to be -0.2% in April 2016, down from 0.0% in March. Bond yields won’t be going higher anytime soon.
Meanwhile, in the U.S., the odds of the Fed doing another interest rate hike this year are falling like a rock.
A strong dollar has killed U.S. exports. The Fed also realizes the U.S. and global economies would wither under higher borrowing costs.
Bottom line: U.S. interest rates will stay low. And low rates at home and abroad lift a tremendous weight off of gold.
And if the rumors are true and the Fed is considering negative interest rates, that’s even better news for gold.
Gold has enjoyed a great run this year. But that run isn’t over. Pullbacks can be bought.