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Private Clients Go for Gold - New Research

Christopher Owen

30 October 2007

Gold rallied to its highest level in nearly three decades yesterday as speculative buying gained pace after crude oil struck a record high on tensions in the Middle East and the US dollar tumbled to an all-time low. Physical trade came to a standstill as jewellery makers watched gold prices gyrate. Spot gold hit $792.90 an ounce, its best level since January 1980 when it peaked at $850 as investors bought the metal heavily on high inflation linked to strong oil prices, Soviet intervention in Afghanistan and the impact of the Iranian revolution. Platinum also touched a record high yesterday, silver rallied to its best level in eight months and palladium hit a two-week high. But despite an estimated $52.8 billion invested in gold by high net worth and ultra high net worth clients, few are likely to see much upside due to the ambivalence of the relationship between wealth managers and gold. In view of the current market, WealthBriefing looks at the key findings of an investigation, undertaken by London-based wealth consultancy Scorpio Partnership, into how and why gold is purchased as an investment by private banks, family offices and private clients worldwide. The appetite for gold as an asset class amongst private clients, it found, is driven equally by a desire to hedge against the US dollar and the fact that gold provides a safe harbour. Capital preservation is also more important than growth. Overall, 80 per cent of the private banks and family offices surveyed are currently allocating to gold instruments, usually as a portion of the commodity allocation in benchmark portfolio weightings. The majority have a 5 to 6 per cent allocation to commodities with a median of only 0.5 per cent invested in gold instruments for high net worth clients. The median allocation to gold was slightly higher for ultra-high net worth clients at 1 per cent. There are certain markets where local players have a higher benchmark allocation to gold, and it was indicated that in certain markets there is a greater cultural affinity with gold and therefore greater client demand. Scorpio estimated that HNW and UHNW clients whose assets are intermediated by private banks are most likely to be invested in gold, such that North America and Europe boast $31.8 billion and $15.5 billion invested respectively, while Asia-Pacific, the Middle East and Africa, and Latin America could only muster an estimated $5.5 billion in gold investments between them. The use of gold for dollar hedging and as a safe harbour both stand in stark contrast to this low overall allocation to gold as an asset class. On a segmented basis, the responses suggested that UHNW investors are more likely to be invested in gold as a safe harbour than in its use as a US dollar hedge, whereas HNW investors are more typically invested in gold as a hedge against the US dollar. On a geographical basis, the issues relating to currency hedging were more prevalent in the responses from Asia, whereas the issues relating to the safe harbour offered by gold were more relevant to offshore clients from the major offshore centres. Diversification and speculation were the next most popular reasons for investing in gold, followed by geopolitical hedge and non-correlation. "Gold is not just about bling," said Scorpio managing partner Sebastian Dovey. "Our assessment shows that it occupies a particular investment slot in the minds of the wealthy, which demonstrates that the opportunity is greater and more diversified worldwide than most private banks think." Sentiment to gold as an investment opportunity was strongly polarised among the private banking professionals, with only a handful of the interviewees indicating they were neutral on gold as an asset class. The negative sentiment was characterised by a drift away from gold as an asset class linked to the rise of other instruments such as private equity and property. This was particularly true in major financial and private banking centres, which represented lower allocation to gold overall, and few of the participants were able to comment specifically on the fundamental drivers of the asset class. "At least half the market still sees positive characteristics in gold," said Mr Dovey. "This is linked to gold’s recent bull run and the domestic and foreign policy of the US, which has increased its profile as a safe harbour. But crucially, only a small minority of the respondents said they would actively steer a client towards gold." As to gold products, physical gold – either in custody or through a gold account, certificates or an exchange traded fund – emerged as the preferred instrument to access gold, particularly for those investors who pursuing a “buy and hold” strategy. Speculative investors, on the other hand, favoured derivative instruments, whereas discretionary investors typically use structured products to implement the benchmark strategic asset allocation to gold for clients, especially in countries with mature financial markets, like the US, UK and Switzerland. These products are typically not backed by physical gold. Given that ETFs in general have been widely accepted by the private banking community, Scorpio found there was a surprising gap between those that use ETFs and those that use gold ETFs. Scorpio said many responses suggested this was because there was little client demand for specific gold strategies, so most client portfolios are allocated via a standard solution, which will often use structured products. "There appears to be both a lack of visibility for the gold ETF providers in the market and a lack of a detailed understanding of the benefits of using an ETF product in specific client scenarios," said Mr Dovey, "or, to a much lesser extent, negative sentiment by advisors and clients regarding gold as an investment." In the course of its investigation, Scorpio conducted qualitative interviews with 65 private banks, family offices and private clients across 19 different countries. The institutions in the sample managed total private client assets of $4.5 trillion, representing over a quarter of all private client assets managed by private banks worldwide.