Even if gold, over the long-run, serves as an inflation, currency and systemic hedge, gold equities do not. On Wood Mackenzie estimates, the industry experienced an average of 30% cost inflation in 2008-12, while cumulative global inflation stood at 26% on IBRD data. Individual company cost data suggest even higher rates of cost inflation. Despite the direct channel that higher gold prices exert on the cost base through higher royalty payments, we believe that a higher gold price environment also drives up equipment and parts prices, as well as labor costs, as a qualified workforce gains negotiating power in a tighter and stronger market. In addition, producer currencies have moved with the gold price to further squeeze free cash flows against the dollar-priced commodity and so erode FX hedging efforts. Moreover, while gold and indeed any resource company is constantly subject to various sequestration and taxation risks, these risks are likely to grow exponentially in a period of heightened systemic risks, making gold equity at best a poor hedge for systemic risk. That said, gold company betas remain comfortably below 1.

David Fuller's view This is certainly one of the more comprehensive reports that I have seen on gold shares recently. I consider them to be highly speculative relative to gold bullion. However, they have become more interesting due to the extent of their underperformance.

Interestingly, the best gold share rally that I ever participated in occurred, as I recall, several years after bullion's earlier secular bull trend peaked in January 1980. I have not yet been able to get sufficient back data in the Fullermoney Library or on Bloomberg to confirm the date with a South African example but it was probably commenced in the mid to latter 1980s, as these historic charts of Barrick Gold indicate (semi-log & arithmetic), and continued well into the 1990s. Then, as now, the crowd had given up on the sector when the recovery started.

However, there was a significant difference back then; a number of South African gold shares, which dominated the sector, had double-digit yields. Nevertheless, most reviled sectors eventually score significant recoveries. Therefore I regard gold shares as speculative recovery candidates over the medium term. My conservative choice today would be Barrick, because of its current estimated P/E of 7.2 and yield of 2.7%. Also, the Barrick management team is highly experienced and if they can hold the dividend, that offers some comfort during the wait for recovery.