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.)

*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.

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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.