This is the ninth piece in Seeking Alpha's Positioning for 2013 series. This year we have taken a slightly different approach, asking experts on a range of different asset classes and investing strategies to offer their vision for the coming year and beyond. As always, the focus is on an overall approach to portfolio construction.
Tim Iacono is the founder of the investment website Iacono Research, a subscription service providing market commentary and investment advisory services specializing in natural resources. He also writes a financial blog, formerly known as 'The Mess That Greenspan Made', a sometimes irreverent look at the many and varied after-effects of the Greenspan term at the Federal Reserve.
Seeking Alpha's Jonathan Liss recently spoke with Tim to find out how the precious metal expert's views were shaping up heading into 2013.
Jonathan Liss (JL): How would you describe your investing style/philosophy?
Tim Iacono (TI): Heavily concentrated in precious metals with much smaller allocations to other commodities, natural resource stocks, REITs, and bonds.
JL: As we approach 2013, are you generally bullish or bearish on precious metals? What are the major catalysts for markets in 2013?
TI: I'm very bullish for 2013 since, as far back as about 2006, I've predicted that this would be the year of the "blow-off" top for the long-term bull market in gold and silver. While I'm not so sure now that we'll see an end to this bull market in 2013, we'll likely get a lot closer as the consolidation in precious metals runs its course.
Additionally, mining stocks have been underperforming for two years now, so there is great potential for them to have another year like they did in 2010.
JL: Let’s talk potential downside for a bit. Under what scenario do you see gold and other precious metals moving lower in 2013?
TI: A stronger trade-weighted dollar could certainly pressure gold and silver prices. I've never liked the idea that when the U.S. currency strengthens against other paper money, the gold price goes down, but that's what happens more often than not. Since the election that brought Shinzo Abe back into power in Japan, the yen has already weakened considerably against the dollar and that seems likely to continue, but the bulk of the U.S. dollar index is the euro and that's a big unknown for 2013.
Also, it's possible that the U.S. fiscal cliff will be resolved in a way that preserves most current stimulus measures (so the economy does not plunge into recession) while, at the same time, providing a credible long-term deficit reduction program. I think this is very unlikely, but, should it occur, it would send metal prices sharply lower.
JL: As he has on many occasions in the past, Warren Buffett questioned the sanity of those that view gold as an investment again in 2012, stating that the yellow metal has no real-world utility, pays no dividend and thus isn’t a ‘real’ investment, because it can’t be reasonably valued. Why is Buffett wrong about gold’s utility within a balanced portfolio?
TI: Everyone has a blind spot or two and this is one of Buffett's. He appears to have unshakable faith in the current financial and monetary system while, at the same time, other world-famous investors (such as fellow billionaire Bill Gross at PIMCO) have been critical of run-away deficits, Fed money printing, and all sorts of other ills that plague the current system.
It's one thing to avoid gold as an investment (because there really is no way to value it, though this seems to bother fewer billionaire investors every month), but it's another thing to mount your own public service campaign to discourage others from doing so. I think Buffett would prefer that we forever live in a world like the 1970s and 1980s (i.e., during the first two decades of a pure, global, fiat money system) rather than what we've seen in the last two decades. He really doesn't seem to understand - or even acknowledge - the profound changes to the financial and monetary system that have taken place in recent decades.
JL: Many gold bugs claim that impending runaway inflation makes now an ideal time to buy gold. Yet, one look at a gold chart during the 80s shows gold losing over 50% of its value from the start of that decade, and with typical interest rates that ran into the double digits, as well as inflation readings that are higher than what we typically see today. Contrast that with gold’s performance since 2002, where it is up roughly 600% alongside nearly non-existent inflation. Why do so many gold bugs continue to insist that gold performs best in inflationary periods, despite overwhelming historical evidence to the contrary?
TI: The key here is real interest rates, not inflation in and of itself and, unfortunately, this not well understood by many investors. One of the things that the 2000s had in common with the 1970s was that real interest rates (e.g., Fed funds rate minus annual CPI inflation) have been low or negative. Contrast this with the 1980s when inflation was still high as compared to today, but short-term interest rates were even higher.
For example, looking at the mid-1980s - the years following the gold price peak - you'll find that inflation ran at annual rates of 4, 5, or 6 percent, but short-term interest rates were at 8, 9, or 10 percent. Real interest rates averaged about 5 percent from 1981 to 1989 versus an average of about -0.1 percent in the 1970s and, in the 2000s, real interest rates averaged about +0.1 percent.
JL: Generally speaking, which economic conditions bode best for gold’s performance and why?
TI: Low real interest rates - you can examine many other indicators and conditions, but this is the one that has been most reliable since gold began trading freely in the 1970s.
JL: Gold also appears to be negatively correlated with equity returns. So it did well in the 1970s and again over the last decade when equity returns were poor. Will this relationship continue into the future, or has it been merely coincidental with other, unrelated factors driving gold’s returns?
TI: In this brave new world of unprecedented central bank money printing, it seems likely that, most of the time, assets such as stocks and gold will move together rather than opposite each other as they did during prior decades. One of the important lessons of the 2008 financial crisis was that the gold price held up well as other assets plunged and I'd expect this same sort of thing to occur during the next crisis.
TI: Physical gold. The liberalization of precious metals markets and central banks turning to buyers, rather than sellers, have fundamentally changed this market and it's important to remember that central banks buy gold, not gold mining stocks. The remarkable performance of gold in 2008 - up 6 percent as everything else tumbled - combined with mining company CEOs regularly disappointing shareholders in recent years make this a rather uncomplicated decision.
JL: Gold, silver or platinum? Or all of the above?
TI: Gold and silver only - these are monetary metals, versus platinum that is much more closely tied to the global economy (and automobile production for catalytic converters).
JL: Gold and precious metals funds, or the real thing?
TI: I've always advocated buying as much physical gold and silver as you can until storage becomes an issue, then buying one of the ETFs.
JL: In terms of precious metals funds, do you prefer physical or futures-based?
JL: For those investors that aren’t interested in holding quantities of precious metals themselves, which fund or funds do you recommend and why?
TI: The two biggest gold and silver ETFs - the $75 billion SPDR Gold Shares ETF (GLD) and the $11 billion iShares Silver Trust (SLV) - are the most obvious first choices and I own both of them. Other funds may offer lower fees and have other features that some investors might find attractive (e.g., where the metal is stored, who the custodians are, closed end vs. open end) but like buying a major stock index fund, most people are probably best off going with the funds with the longest track record. As always, investors should do their own due diligence.
JL: What percent of an investor’s portfolio do you feel should be in gold and silver heading into 2013?
TI: This of course varies based on an investor's risk tolerance and general outlook. For example, gold and silver have produced similar gains over the last decade but it's been a much bumpier ride for silver. I think the conventional wisdom of 5 percent of your assets in gold, silver, and mining stocks is insufficient to do much for your overall returns and I've advocated anywhere between 25 percent and 75 percent.
To read other pieces from Seeking Alpha's Positioning for 2013 series, click here.
Disclosure: Tim Iacono is long GLD and SLV.