Gold has been a big driver of Lyon’s £2.4bn Trojan fund over its 13-year history, but the fall in the price in bullion has contributed to its recent underperformance relative to its FTSE All Share benchmark.
Performance of fund vs indices over 1yr
Source: FE Analytics
Sentiment towards the yellow metal has hit massive lows in recent months, with many experts calling the end of the bull market that started back in 2000.
However, Lyon rejects this view, and says he has no plans of selling out of his 10 per cent position in bullion and 3 per cent position in gold equities.
"Is the gold bull run over? The consensus seems to think it is," he said in an exclusive interview with FE Trustnet.
"Gold has gone up in 12 of the last 13 years, so it would be strange for there not to be a material correction at some point."
"In the last gold bull market during the 1960s and 1970s, there was a correction of around 40 per cent in 1976, but from there it went up eight-fold."
"The question is: is this a bear market or bull market correction? I would be more inclined to say the latter."
Performance of indices over 10yrs
Source: FE Analytics
"Gold does badly when real interest rates are high – i.e. when it’s a good time to make money from holding cash. In our view, a rise in interest rates will lag a rise in inflation, meaning that we will still be in a negative interest rate environment."
Many industry commentators have pointed to the surge of the gold price in the years prior to 2011 as a bubble, driven by the rise of ETFs which allow retail investors to get easy exposure to the metal.
Lyon admits momentum investors did contribute to gold’s steep rise, but rejects the view that a gold bubble is bursting.
"My view is that it was never a bubble in the first place," he said. "When you think of the dotcom bubble, when investors had as much as 40 and 50 per cent in tech, that’s clearly a bubble. In gold, very few would have more than 3 or 4 per cent, so it’s not comparable."
"Admittedly, a lot did buy in to it because it was going up. After the crisis, people were looking to diversify their holdings and you saw gold have a very strong move in 2010 and 2011. People were buying it for the wrong reasons – not as an insurance, but as a momentum play."
"The froth has been blown off the speculative period, which has been very painful. We think this insurance policy will come good in the future, though."
Lyon thinks gold could yet fall further in the short-term – especially if bond yields continue to rise. However, he says he has used recent falls to modestly increase his exposure.
Like rival Steve Russell at Ruffer, Lyon believes that high inflation is on the cards as a result of the vast amounts of liquidity that have been pumped into the system. This, he explains, is one of the principal reasons why he holds gold, because it will ensure that real interest rates remain low.
Many of the gold bears have recently questioned gold’s worth as an inflation hedge. Just yesterday, chairman of the Fed Ben Bernanke was quoted as saying: "A lot of people hold gold as an inflation hedge but the movements of gold don't predict inflation very well actually."
While Lyon (pictured) accepts the precious metal does not act as a hedge all the time, he says it is one of the very few assets that prospers when inflation rises steeply.
"As pointed out in Credit Suisse’s latest investment year book, gold is the one asset that protects you from a very sharp rise in inflation rates," he said. "It’s worth asking yourself – if the value of your spending power started to wane, what would you want to hold?""The problem is that like anything, there will be down periods and volatility. It’s funny – when things are going well, everyone says 'you’re right', but as soon as things start to go down, they want an explanation," he added.
Lyon says he is also retaining his 3 per cent exposure to gold equities, which have performed even worse than the gold price in recent months. Our data shows that the HSBC Global Gold index has lost almost 40 per cent in the last year, while funds such as BlackRock Gold & General and Smith & Williamson Global Gold & Resources have fallen to an even greater extent.
"Gold equities have been the biggest disappointment – they’ve been horrible," he said. "We’ve always known they were high risk, which is why they’ve never had a big weighting. We’re usually in to big, strong, stable businesses like Coca Cola or BAT, and I suppose these are the antithesis of them."
"Our argument was based on the fact we were optimistic about the gold price longer term, whilst also knowing they are operationally leveraged."
"The optionality on gold shares now is very high – they are a totally friendless asset class. As long as we’re not totally wrong on gold, we think this process is near completion. My message would be 'don’t compound the error by bailing out'."
FE Trustnet recently explored the decision investors face with their loss-making gold funds, and came to a similar conclusion.
Lyon holds Agnico-Eagle, Newmont Mining and Newcrest Mining in his Trojan fund.
"Newmont and Agnico-Eagle have held up relatively well, but Newcrest has been particularly disappointing," he said.
"All have assets in places where private capital is protected, which is important, and have very long-term reserves."
Lyon has not increased his exposure to these stocks just yet, but has not ruled this out in the future.
While Lyon’s Trojan fund has had a tough time of late, its record over the long-term remains strong; FE data shows it has returned 166.57 per cent since its launch in May 2001, beating its IMA Flexible Investment sector average and FTSE All Share by 107.73 and 79.52 percentage points, respectively.
Performance of fund vs sector and index since launch
Source: FE Analytics
The fund has also outperformed over five and 10 years, but has fallen short over three.
Lyon has a particularly good record in falling markets, managing a positive return in both 2008 and 2011 when the All Share was down 29.93 and 3.46 per cent, respectively.
FE Trustnet will discuss Lyon’s wider views concerning the direction of the equity and bond markets in an article next week.
Trojan is closed to new investors, but can still be bought on certain platforms. The manager’s Personal Assets Trust – a closed-ended version of the fund with very similar holdings and asset allocation – has ongoing charges of 1.01 per cent, and is currently on a premium of 0.9 per cent.
