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Gold is No. 1
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February 12, 2002: 2:23 p.m. ET
Gold stocks and funds are crushing the broader market.
By Staff Writer Paul R. La Monica
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NEW YORK (CNN/Money) - Olympic athletes in Salt Lake City aren't the only people who like the looks of gold. Investors have also taken a fancy to the lustrous metal this winter.
All three major market indices -- the Dow, S&P 500 and Nasdaq -- are down so far in 2002, and the average stock mutual fund is deep in negative territory.
But gold stocks -- and the funds that invest in them -- have more than shrugged off the lingering effects of Enron-itis. With the price of gold hovering around $300 an ounce -- its highest level in nearly 19 months -- the Philadelphia Gold and Silver Index is up 18.6 percent so far this year. And precious metals mutual funds are by far the best performing funds, with a 20.7 percent return, according to Morningstar.
Why have gold stocks done so well and can this performance continue?
Gold rally may not be over
In times of uncertainty, investors typically flock to gold, considered the ultimate hedge against disaster. But analysts point to more sound fundamentals to explain the recent surge in gold.
Mark Johnson, manager of the USAA Precious Metals and Minerals Fund says there are two reasons why gold stocks have been racing.
First, several big gold miners are signaling stable gold prices, which has boosted confidence in the sector. Newmont Mining and AngloGold, for example, have talked about unwinding their hedge books, contracts that lock in future gold production at guaranteed prices. By doing this, the supply of gold is reduced somewhat, leading to higher prices. And the fact that leading mining companies aren't worried about guarding against declining prices is boosting investor confidence and leading gold prices higher.
Second, there has been increasing demand for gold in Japan, Johnson says. That's because new banking regulations are set to go into effect on April 1 that will greatly reduce the amount of deposit insurance. That has led to concerns that Japan's economy, already struggling, might get even worse. And in order to hedge against this possibility, Johnson expects more gold buying in Japan, which should keep prices of gold moving upward.
But a pullback is likely
However, the dramatic rise in gold stocks has some concerned that the stocks may be in for a bit of a correction. "Valuations are a little high and the stocks are a little ahead of themselves," says Michael Fowler, a gold analyst with Harris Securities in Toronto.
Some analysts are already putting on the brakes. Prudential analyst John Tumazos downgraded Newmont Mining, the world's largest gold miner, on Monday to "sell" due to concerns about falling gold reserves and the stock's valuation. Newmont's stock is up 23 percent year to date and is trading at 65 times 2002 earnings estimates.
Johnson agrees that reserves are declining for Newmont and adds that they are industry-wide. But he does not see this as a huge concern, arguing that lower reserves means lower supply, which should support prices.
And P/E ratios, at between 20 and 30 for many gold stocks (based on earnings estimates for 2002) aren't out of line with historical averages, according to Larry Strauss, an analyst with Griffiths, McBurney and Partners in Toronto.
In times like these, gold can be comforting -- the asset is solid, unlike the pro forma earnings of many tech companies. But remember too, that gold moves in cycles, and forecasters have been pretty bad at calling tops and bottoms. For that reason, most financial planners caution against having much more than 5 percent of your portfolio in gold. (See, "Should I go to gold?") 
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GOLDEN RETURNS FOR GOLD STOCKS
