Joe Foster: $2,000 Gold in Next 3-5 Years

Includes: GDX, GLD
by: Hard Assets Investor

By Lara Crigger

Gold looks, well, golden, to Joe Foster, precious metals expert and portfolio manager for Van Eck Global. Foster joined Van Eck in 1996, and currently serves as lead team investment manager for the company's flagship mutual fund, the International Investors Gold Fund. He is also a team investment manager for the company's Global Hard Assets Fund and VIP Global Hard Assets Fund, and acts as a consultant for the Market Vectors Gold Miners ETF (NYSEARCA:GDX).

Recently, HAI Associate Editor Lara Crigger chatted with Foster about his thoughts on gold, including the role it plays in a portfolio, how much investors should hold, and where the yellow metal is headed next.

Crigger: What role should gold play in an investor's portfolio? Is it a source of profit, insurance or both?

Foster: I think No. 1, it should be thought of as a form of insurance in times of financial stress. Gold's a great portfolio diversifier, because it has a very, very low correlation with other asset classes. So when you add a little bit of gold to the portfolio, it gives the portfolio better risk-adjusted returns in the long term.

Then on top of that, it is a hedge against financial stress, whether it's inflation or deflation or some sort of credit crisis or currency turmoil. Gold reacts to all of that stuff, and can enhance performance during those times of volatility.

Crigger: So in that case, how much gold should investors hold in their portfolios?

Foster: Gold should never be the centerpiece of a portfolio; it's more of an add-on. Personally, I would recommend 5-10 percent in gold or gold shares. I give a range because when investors have a feeling that the financial risk is going to be elevated in the future, which I believe it is now, then they'd want to be at the higher end of the range. Then when you see the economy and the credit market start to perform properly, then you might want to peel back to the lower end of the range.

Crigger: Should investors only hold gold in bullion form, or are other vehicles, such as ETFs or futures, OK too?

Foster: My favorite allocation would be a combination of gold and gold shares. So for gold itself, either physical gold or in gold ETFs is fine. For gold shares, gold mining companies can be a risky investment, so I think you're better off with an experienced portfolio manager and buying into a gold equity fund.

I have preferences for gold shares in a gold bull market. If you're carrying the right gold shares in your portfolio, you should be able to outperform the gold price. So as long we have an outlook for higher gold prices going forward, I thing gold shares are the best way to play it.

Of course, I'm being sort of cautious. We have seen throughout this bull market periods of time when gold has outperformed gold shares, so I'm a big believer of diversification within the gold universe. You get better diversification when you have a mix of gold and gold shares.

Crigger: Where do you see the price of gold going in the next few years?

Foster: In the near term, as we move into 2011, I think we'll see gold make new highs above the $1265/oz high that we saw back in June. In the longer term, there's no easy way out of the mess that we have with the credit markets and the debt that the government is taking on and so on. So in certain scenarios, I could see gold trending toward $2000/oz in the next three to five years.

Crigger: Is it just macroeconomic factors that would be pushing this up or is there a supply and demand imbalance here as well?

Foster: It would be investment demand. This is investors in genuine fear for their wealth.

We just saw that the Fed is going to replenish their supply of certain US debt going forward, and they may increase that activity going forward, depending on what the economy does. What it amounts to is printing money, and they're devaluing the US currency. When investors see this happening, they look for a sound currency and that's the role that gold plays in this environment. When the leading reserve currency, which is the US dollar, is mismanaged, people look to gold as a safe-haven currency.

Crigger: In this scenario, then, do you see that we'll end up with hyperinflation, deflation or even stagflation in the future?

Foster: Well I think we're going through a period of deflation. We're in the midst of a deflationary credit contraction right now, and I think those dynamics will dominate the market for another year or two.

But once the credit markets start to function normally again and the velocity of money picks up, then I think we have a very real danger of having an inflationary cycle. If it were to get out of hand — if the Fed's policies remain too easy for too long — then we could have a cycle like we saw in the ‘70s, with double-digit inflation.

Crigger: So I'd gather that you don't think the euro-gold trade is over quite yet, either.

Foster: in the near term, with the European situation, they've put a band-aid on it for now. The markets have settled down and they're not as concerned about the euro.

But ultimately, I think the finances of Greece are almost impossible to cure without some sort of restructuring or default. At best, they're just buying time. When that restructuring finally occurs, then I think the markets will be unsettled.

So things have settled down for now, but by no means have we seen the end of it. That's another reason we are bullish in the long-term towards gold. The problems with fiscal and monetary qualities aren't just in the US, but they're in Europe and Japan. The major economies of the world are in serious financial straits.

Crigger: We're on the cusp of a seasonal high point for gold, as buyers worldwide start purchasing jewelry for Diwali and Christmas and other holidays. How do you think this will affect prices in the short to mid term?

Foster: That's why I said earlier that I think the world will trend toward new highs as we move into 2011. If jewelry demand will pick up in the fall, like it usually does, then that will provide a base for gold to build on. Then if you layer in some of these macroeconomic financial stresses that seem to pop up periodically, that will be the catalyst to really drive gold to a new level.

I can see it trending toward $1300/oz, but it all depends on what's going on in the market. It's something that's impossible to predict, but I could see it trending to $1300/oz, certainly.

Disclosure: No positions