Link:http://www.cnbc.com/id/29364859

Article:

Investor Doubt Increases Gold's Appeal

Growing investor doubt over money markets as super-safe investments against a backdrop of the deteriorating world economy are adding to the gloss of gold, which also offers a shelter against looming inflation.

With prices falling and the economy deteriorating, investors traditionally hoard cash and near-cash safe instruments such as government bonds, money market funds and gold.

However, yields on government bonds or other instruments money market funds invest in have fallen sharply — in some cases multi-decade lows — as major central banks lowered the cost of borrowing.

The belief that money market funds pose zero risk and are super safe has also been badly shaken as the credit crisis has drained liquidity, prompted forced sales and knocked down the value of such funds.

This is making gold — also an orthodox inflation hedge — as a strong contender to cash.

"Gold benefits from rising inflation. We know right now the problem is not inflation. Gold is an alternative, a competitor to money," said Ashraf Laidi, chief market strategist at CMC Markets.

"As for money market funds, considering last year's development — 'breaking the buck' in some money market funds, or yields at or near lows, the unattractiveness is obvious."

A money market fund "breaks the buck" when its net asset value falls below $1 a share.

Last year, shares in the U.S.-based Reserve Primary Fund fell below $1.00, unleashing a flood of redemptions in money market mutual funds.

Money Market to Gold

While U.S. money market funds benefit from the Federal Reserve's $600 billion facility to help the industry and investors, European funds have no such program.

British insurer Standard Life recently said it would spend $104.5 million compensating 97,000 customers angered by a fall in the value in its money market Pension Sterling Fund.

"Safe assumptions can no longer be made and a single party cannot assure that money invested (in the money market) is 100 percent safe," said Chris Oulton, chief executive officer of Prime Rate Capital Management.

AP

A survey by Merrill Lynch showed fund managers became less overweight on cash this month while they also cut their underweight position on commodities.

At the same time, gold last week shot above $1,000 an ounce towards last year's record high around $1,030 and has gained more than 12 percent in 2009.

Gold's rise comes as many developed countries see a surge in the cost of insuring sovereign debt against default.

The United States, Germany, France, Belgium, Finland, Austria and Ireland are among the countries which saw the default protection cost, measured by credit default swaps, hit record highs this month.

"The increasing correlation between gold prices and measures of sovereign and financial risk default clearly suggests that gold has become the currency of last resort," Goldman Sachs said in a note to clients.

And inflation expectations are on the rise, thanks to bailout packages by the world's governments.

Expected inflation, or the breakeven rate as measured by the spread between yields on the U.S. 10-year Treasuries and Treasury Inflation protected Securities maturing on July 2018, has risen by over 100 basis points since late November.

"Gold appears to benefitting from the traditional hedge for inflation hawks and mistrust of cash assets... during the current financial crisis," Goldman said.

Golden Investment

CMC's Laidi noted the equity/gold ratio, which measures corporate market value versus real asset value, has fallen to 18-year lows, underscoring the attractiveness of the metal.

The ratio using the S&P 500 index has fallen to 0.81, down 85 percent from its 1999 peak. It hit all-time lows of 0.18 in 1980.

Since the 1920s, the ratio has peaked twice at roughly 35-year intervals -- 1929 to 1965 and 1965 to 1999.

After each of those peaks, stocks fell and gold rallied.

For the ratio to return to the 1980s low -- which Laidi reckons is highly plausible -- it would have to fall by another 75-80 percent.

Even taking a more conservative scenario of a 50 percent decline in the ratio and a target gold price of $1,250-1,300 an ounce, the implied value for the S&P 500 index would stand at 500-520, compared with 743 currently.

"The opportunity cost against cash in holding gold is practically negligible nowadays. People are genuinely concerned about the global financial system," said Ian Henderson, fund manager of JPMorgan Asset Management's Global Natural Resources Fund.

Snippet:

"The increasing correlation between gold prices and measures of sovereign and financial risk default clearly suggests that gold has become the currency of last resort," Goldman Sachs said in a note to clients.

Comment:

Do they finally get it?

Good Luck to all!