"Safe haven" assets start to look risky

Reuters, Friday 26 Aug 2011

Many investors see traditionally safer assets as vulnerable to sharp sell-off should the global economy improve, or simply very highly priced in the absence of financial catastrophe

(Photo: Reuters)

This year's heady bout of risk aversion on financial markets has yielded results. Demand for gold, US treasuries and the Swiss franc is such they may no longer be the "safe havens" they have been billed as. Some investors see all three as vulnerable to a sharp sell-off should the global economic environment improve in the next few months, or simply because prices are too high in the absence of an outright financial catastrophe.

"A safe asset is something that is going to be safe across economic environments," said William De Vijlder, chief investment officer at BNP Paribas Investment Partners. "It means you'd better make sure your forecast is right."

Signs of demand froth are already showing, at least in gold and the Swiss franc. But all three safe havens have distinct features, so losses from renewed demand for riskier assets will not hit them equally. Gold, for one, may fare better given that underlying demand for the metal is not all based on risk aversion. But none are "safe"; their remarkable rises this year may pose some risk for those holding them.

Ten-year US treasuries have recently traded with yields below two per cent -- their lowest in generations -- and, according to Merrill Lynch data, have returned some 11 per cent over the summer. The Swiss franc has risen by 15.3 per cent and 8.5 per cent, respectively, to record highs against the dollar and Euro, prompting moves from the Swiss National Bank to rein it in. Perhaps most spectacularly, gold has risen as much as 33 per cent, taking it to just below $2,000 an ounce -- a startling performance after a decade-long rally that has seen an over 600 per cent price rise.

In the last few days, however, there has been a sharp sell-off -- nothing really to dent the asset's major gains, but a reminder of how quickly heady gains can run out of steam.

"It is not difficult to believe that gold could correct a reasonably good amount," said Ashok Shah, chief investment officer at London & Capital, adding that this would not necessarily undermine its long-term bullish trend.



Of the three assets benefiting from the slowing global economy, lower interest rates and debt crises in the Euro zone and elsewhere, gold is arguably the least vulnerable to a huge reversal. It offers no yield or dividend and can rise and fall rapidly based on investor fear alone. But the drivers behind its rise are diverse and it may hold up better than other commodities as economic conditions change.

Demand was bolstered up by central banks buying gold as part of their diversification of foreign reserves. Even more significant may be the buying of bars and coins by newly wealthy Asian consumers, notably in China. The World Gold Council estimates there was roughly a 25 per cent rise in demand for gold from Chinese consumers between the second quarters of 2010 and 2011. Gold is not particularly subject to what BNP Paribas' De Vijlder calls the "feedback loop," which occurs when a significant price rise begins to affect economies in such a way as to prompts policy changes by governments.

The same cannot be said for the Swiss franc, which has been wobbling courtesy of the SNB's moves to cap its gains. The SNB has cut official rates to near zero and pumped out more money to lower the franc's value. It has also sold francs in the forwards market to drive rates lower and make it expensive to hold the currency. This is only a part of what it could do, meaning investors will have to battle to protect gains -- something that detracts strongly from the concept of a "safe haven."

Charlie Morris, head of absolute returns at HSBC Global Asset Management, believes investors have been treating the Swiss franc as something that it is not: "It is easy to forget that the Swissie is a relatively minor currency and not the global liquidity pool that it is cracked up to be," he said.


US treasuries, meanwhile, have a reached a point where investing in them is only slightly more lucrative than putting money under the mattress. Like gold, they are supported by outside-the-market factors such as Federal Reserve buying and huge inflows from China. Some of that will change as the US economy improves and Beijing diversifies. Mainly, however, yields of around 0.2 per cent for short paper and only two per cent for long offer little. It would not take much of an inflationary spike or economic rebound to prompt a rush to the exit.

"Treasuries are either pointless at the short end or dangerous at the long end," Morris said. "Either we have deflation and bonds deliver paltry yields... or, more likely, inflation resurges and investors in bonds lose their shirts."

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