The Ultimate Safe Haven Investment

Gold. It's been an object of fascination since the beginning of recorded history. Even today, the Indian wedding season creates a spike in demand for this commodity, as wealthy brides wear it for their nuptials.

Indian households hold over $500 billion worth -- about $435 for every inhabitant. Compare that to India's GDP per capita ($1,078), and it's equivalent to the average American family of four hoarding almost $74,000 of the yellow stuff.

However, some Indian brides will have to make do with imitation gold this year; as one bride-to-be explained: "Gold is just too hot right now." Too hot? I have an inkling it could be about to get even "hotter."

Will gold break $1,000?
"It's not a question of if, it's a question of how soon," said Peter Munk, back in January. Normally, I don't pay too much attention to market predictions, but Munk is the chairman of Barrick Gold (NYSE: ABX  ) -- the gold producer with the world's largest reserves.

Investors aren't only buying gold exchange-trade funds (ETFs) such as the SPDR Gold Shares ETF (NYSE: GLD  ) . Munk also says that he's recently been taking calls from wealthy investors asking him how they can get their hands on the actual, physical commodity.

Is $1,000 per ounce just the step in a long climb?
Last Friday, barely three weeks after Munk's call, gold broke the $1,000 barrier, closing just shy of its all-time high, for a 12% return. Over the same period, stocks registered a 12% loss. However, some strategists are looking well beyond the $1,000 level for gold.

Citigroup recently said that gold prices would reach $2,000 per ounce. CLSA strategist Christopher Wood, who predicted Japan's "lost decade" in 1993 and the U.S. housing crisis in 2003, now says gold is likely to more than triple from its current level, to $3,500 per ounce in 2010.

Those numbers may sound fanciful, but Wood believes policy reactions to rampant deflation will ultimately devalue the dollar. Moreover, there is a compelling case for a supply/demand imbalance that could drive gold prices substantially higher. After all, gold is in relatively fixed supply; as legendary value investor Jean-Marie Eveillard put it: "The market for gold bullion [is] a small market, so it could go very high."

Indeed, if investors were to shift even a small part of their portfolios from financial assets into gold, it could have a big impact on gold prices. According to Schroder Investment Management, the total value of gold above ground is an estimated $4.8 trillion, or less than 4% of the total value of global equity and bond markets.

For these reasons, and because of my deep misgivings about the way in which the government is taking on the current crisis, I think gold is an attractive choice as a portion of one's investable assets. I believe conditions look very favorable for gold to outperform the U.S. stock market in 2009 and over the next three to five years. Still, investing in gold isn't without its challenges.

"The people involved with [gold] seem to be slightly insane"
That's just one of the problems Societe Generale investment strategist James Montier has with gold. The other? "I don't know how to value it," he says. As a value investor, Montier is used to valuing assets in terms of the stream of cashflows they produce. Unfortunately, you can't draw cash from a gold ingot -- its value is determined wholly in terms of the vagaries of supply and demand.

With stocks, you don't have that problem. With a little expertise, you can derive reasonable estimates of their intrinsic value, based on the cashflows the companies generate. And despite gold's attractiveness right now, there is no need to abandon stocks altogether. Some sectors are well-positioned to ride out a recession ... and the future wave of inflation. Combine that with valuations that are lower than they have been in years, and you get what I call gold-standard stocks.

Five potential gold-standard stocks
The stocks in the following table were selected from four defensive sectors: utilities, health care, consumer staples, and defense. All are trading at an adjusted price-to-earnings (P/E) ratio of less than 14 -- i.e., their earnings yield exceeds 7% in a world in which Treasury bonds are yielding less than 3%. (I calculate the adjusted P/E ratio by using the average earnings-per-share for the prior 10-year period.)

Stock

10-Year Average EPS

Adjusted P/E**

Pfizer (NYSE: PFE  )

$1.06

13.2

Philip Morris International (NYSE: PM  )

$2.85*

12.6

Duke Energy (NYSE: DUK  )

$1.30

11.2

Merck (NYSE: MRK  )

$2.62

10.9

Altria (NYSE: MO  )

$1.49*

10.5

*Shorter average EPS time frame due to spinoffs.
**Adjusted P/E based on closing prices on Feb. 19, 2009. Sources: Standard & Poor's Capital IQ and author's calculations.

These aren't formal recommendations -- it would be misleading on my part to suggest that on the basis of a two-criteria screen. However, they do merit further investigation.

Alternatively, if you're focused on preserving your wealth before earning an acceptable return (and if you're not, you should be!), the team at Motley Fool Inside Value can help you identify bulletproof companies at prices that offer a true margin of safety. To see their top five best ideas for new money now, sign up for a 30-day free guest pass.

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Alex Dumortier, CFA, has no beneficial interest in any of the companies mentioned in this article. Duke Energy is an Income Investor recommendation. Pfizer is an Inside Value recommendation, as well as a former Income Investor pick and former Fool holding. The Motley Fool has a disclosure policy.


Read/Post Comments (12) | Recommend This Article (84)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On February 23, 2009, at 11:29 PM, eguy wrote:

    In Fall of 2007, I became concerned about high valuations of many of the stocks in my portfolio. I decided to join Inside Value, and went ahead with substantial investments in some of their most highly recommended stocks: USG, Cemex and several others. These so-called value, undervalued, bulletproof stocks fared no better than anything else, and in several cases they did much worse.

    It is inappropriate in this market to use the terms "bulletproof" and "true margin of safety" in a sales pitch disguised as analysis. The rote disclaimers do not make up for this. To anyone out there who may have read this article in search of respite, don't bite! I would have done less badly over the last year staying with the investments I had in '07.

  • Report this Comment On February 24, 2009, at 9:46 AM, twobs wrote:

    '07? It's '33.

  • Report this Comment On February 24, 2009, at 1:51 PM, sept2749 wrote:

    I AGREE. I tried inside value for 30 days and enjoyed the reading. Even bought some ebay. Cancelled after a couple of weeks. I found it to be a waste of money as I can pick my own losers.

  • Report this Comment On February 25, 2009, at 10:48 AM, TMFAleph1 wrote:

    eguy,

    Thanks for your interest. I take exception with your description that the article is" a sales pitch disguised as analysis."

    There is a sales pitch contained in the article, but it is confined to the last paragraph. I give readers enough credit to believe that they are able to distinguish the sales pitch from the rest of the article, which is analysis/ commentary.

    Best,

  • Report this Comment On February 27, 2009, at 3:08 PM, citation5pilot wrote:

    Does anyone want true safety. What is currently delivering 5%, guaranteed to go upwards in an inflationary economy? It has a minimum investment of $1000.00. If you bought them with a fixed rate of 3.0 percent several year ago, you would currently be earning well in excess of 8.0 percent. The answer: U.S. Treasury I-BONDS. Go to their website. Treasury.gov and create your own account. Safe.Safe. As a matter of fact, as inflation increases, so will your returns.

    Their current fixed rate is .7 %. However, in their calculations, you can earn around 5%. Any CD's around for that?

    A couple of quick thoughts: 1. Must invest for a minimum of 1 year. 2. Up to year 5, if you cancel, you lose you most current 3 months of interest. 3. Maximum investment per year is now limited to $5,000.

    I wonder why

  • Report this Comment On February 27, 2009, at 5:19 PM, SoCalDonnaN wrote:

    You can purchase $10,000 of I-Bonds; through a Treasury direct account ($5,000) and through a bank that sells them ($5,000) for a total of $10,000. When you purchase them using a bank you will receive the bond(s) two to three weeks after purchase.

    And if you have a spouse you could end up with $20,000 split up as stated above.

    I purchase them using both a Treasury Direct Account and through the bank

    Keeping track of them is quite simply using the SavingsBond Wizard program.

  • Report this Comment On February 27, 2009, at 6:26 PM, Usermarkg wrote:

    I agree completely with eguy and the guy who can pick his own losers. I still have cemex. I wonder how the "Million dollar Portfolio is doing?

    Motley fool is an apt name.

    Mark Gilberts

    Monticell, Mn 55362

  • Report this Comment On February 27, 2009, at 7:53 PM, jperkins123 wrote:

    You guys are really tough on The Fool. Over the last 6 months, I don't think there was any place to hide. Am I wrong?

  • Report this Comment On February 28, 2009, at 2:12 AM, nicko168 wrote:

    Based on the past weeks, the stock market has been a place for the guys to rally & show their frustration towards "Robin Hood".So, no matter what stocks u thinking of..forget it....

    Ultimately, do you know who's the real fools? Ha..Ha..

    Real fools are the one who plunge their own economy to zero together with the $787 billion stimulus plan. Why?

    They'll be slapping their own face caused it opens up the opportunities & competition to the "third" world to buy all the "CHEAP" US Companies..Arabi, China, Kuwait & maybe Iran, Iraq etc...

    Based on the recent news, US companies are selling off thier valuable assets (technologies, bank etc) in order to pull through the crisis & who are they selling to? Make a guess....AIG went to China, Singapore etc selling off their stakes..Another is selling their US technologies or commodities caused they're ridden by billions of dollars debt....At the end of the crisis, what will the US companies who once holds the supremacy in technologies, banking etc become? "Zero" is my answer...

    Who the losers? The real losers are the next generation facing the real US....

    There's a old chinese teaching:

    "To break one chopstick is easy..

    To break a bunch of chopstick, is difficult"

    To the real fools, WATCH OUT!!! Ha..Ha...

  • Report this Comment On February 28, 2009, at 10:45 AM, aedh wrote:

    It seems to me that valuing stocks by their P/E historic ratios is wrong as EPS tend to decrease in the forseable future. Besides the P/E on which you base your recomendation are too high as they are equivalent to an Earnings Yield of between 7% and 10% which don´t account properly for the increase in risk premium resulting from the period of extreme volatility in the stock markets.

    It is much better to evaluate companies on the risk of their exposure to the current financial and economic crisis and on their ability to survive shortage of financial resources.

    Your choice concentrating on pharmaceutical industry challenged by the transition to generic products, utility with little growth prospect and tobacco producers, looks odd.

  • Report this Comment On March 02, 2009, at 11:42 AM, TMFAleph1 wrote:

    aedh,

    You wrote:

    "It seems to me that valuing stocks by their P/E historic ratios is wrong as EPS tend to decrease in the forseable future."

    The fact that EPS may decrease in the foreseeable future is exactly the rationale for using average earnings over a 10-year period to calculate the Price-to-Earnings ratio.

    You also write:

    "Besides the P/E on which you base your recomendation are too high as they are equivalent to an Earnings Yield of between 7% and 10% which don´t account properly for the increase in risk premium resulting from the period of extreme volatility in the stock markets."

    I'm a value investor -- I don't equate stock price volatility with risk. It's more useful to think of risk as the possibility of a permanent loss of capital.

  • Report this Comment On March 03, 2009, at 3:32 PM, USofChina wrote:

    XMFMarathonMan you wrote in reply to eguy that we as readers and investors should be able to discern the difference between the "sales pitch" and analysis/ commentary.

    Why do you mix the two? You have no reason to whatsoever to insert and advertisement in the middle of commentary or analysis

    And you completely and purposefully failed to address the true issue eguy was addressing. OBVIOUSLY It is inappropriate in this market to use the terms "bulletproof" and "true margin of safety" EVEN in a sales pitch! Separating your comments from the sales pitch was not necessary, remember, we are smart enough to separate the two. But the sales pitch is pure fiction. Show us, sales pitch or otherwise what is bulletproof and where we might find a true margin of safety in todays market!

    Truthfully analysts are nothing more than slightly educated guessers anyway, and most have done no better, if not worse than the average Joe, yet like the weather man or CEOs of failing Banks, Insurance companies, and Manufacturing companies they still get paid, usually very large sums of money. How many of these gurus predicted this huge failure of our market? VERY few. And how many were cheerleaders for buy! buy! buy! and invest! invest! invest! even as the Titanic referred to as the DOW was already halfway to the bottom? Well really they must be S.C.U.B.A. certified as they are still trying to sell us bulletproof and true margins of safety even as the bow has hit the ocean floor...

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