In the late 1990s gold bugs paid the price for their lust for luster as prices sagged to their lowest levels in 20 years. Growth without inflation was a recipe for disaster for gold producers and investors. But now, a weak dollar, increased liquidity from record-low interest rates, and forecasts of a decline in supply have helped push up prices to seven-year highs. Jonathan G. Best, chief financial officer of South African gold producer AngloGold, a unit of London-based Anglo-American PLC, spoke recently with BusinessWeek International Finance Editor Chester Dawson about the outlook for gold. Edited excerpts of their conversation follow. Note: This is an extended, online-only version of the interview that appears in the October 13, 2003 issue of BusinessWeek.
Q: Why are prices up? The war in Iraq?
A: Gold prices stopped reacting to politically sensitive events some time ago. What they've really reacted to is weak macroeconomic fundamentals. That goes all the way back to September 11, when equity markets took a huge dive, and we saw subsequent cuts in interest rates and a weakening of the dollar. It's these factors that are driving investors into gold.
Q: How high can it go? $400 an ounce?
A: It went through $380 easily. If we see the dollar continue to weaken, it's going to push gold through $400. It's a relatively small market [compared with equities or bonds], so you don't need a lot of people buying to have a big impact.
Q: Gold traditionally rises with inflation. What's different this time?
A: I don't think [inflation] is on anybody's radar screen. What gold is reacting to most is the weakening of the dollar. People are thinking: "The dollar's not as sound.... Should I have all my assets in dollars?" They're starting to diversify out of dollar-based assets into hard assets.
Q: What's the outlook for gold supply vs. demand?
A: People say that if gold goes to $400, there's lots of other production that has been marginal or unprofitable that would come on line. But there's a limit. When you bear in mind that Western world production today is north of 17 million ounces a year, and total world production, including Chinese and Russian output, is close to 19 million, making a dent in a figure that large is going to be really difficult. [Unless new veins are found], the forecasts show that from 2008 onward, there's going to be a huge decline [in production].
Q: Where is new exploration centered?
A: Traditional gold-mining centers -- Australia, South Africa, and North America -- have been mined like a piece of Swiss cheese. So you have to go to places that haven't historically been explored. You're into more risky territories like China, Mongolia, Indonesia. And there's a lot of interest in Russia.
Q: But won't central bank sales offset production declines until new mines are found?
A: It's possible that the band [limiting gold sales by 15 top central banks to 400 tons a year] could be expanded. [The market] can easily handle probably up to 1,000 tons. But any central banker would think twice about selling. They have large holdings, and everyone except the U.S. marks it to market. It doesn't do you any favor to sell some, which lessens the price and forces you to take a write down on the rest. We don't for a moment think that they'll do it in any sort of irresponsible way.
Q: Has the ghost of Bre-X Mineral, the Toronto-based gold-exploration company that filed for bankruptcy in 1997, finally been excised?
A: Post Bre-X investors are very wary about where they put their money, but I think money is still available. People are going to reputable investments instead of fly-by-night people.
Bre-X didn't do the juniors [small, venture-capital-financed gold exploration companies] any favors. They've suffered badly post Bre-X, but they haven't disappeared. The reputable juniors have survived. They're successful because they have a higher tolerance for risk -- not only economically but also physically [as] they go into some really dangerous places.
But once they find something, they go to bigger companies and ask if they would like a piece of it. The quid pro quo is that the major or intermediate-size gold companies then put some money in to fund the program. You're seeing increased transparency, but they're also tackling less risk than they used to and have developed [successful] track records.
Q: How does AngloGold plan to grow in a declining market?
A: We have a pretty strong pipeline of organic growth from assets we already own. We have projects that will deliver another 30 million ounces of gold [mostly in South Africa and Australia]. The next thing is brownfield exploration around existing operations where you already have infrastructure and a high chance of converting resources into reserves [in places such as Alaska, Canada, Peru, Mali, and Australia]. Our track record there is finding roughly 2.5 million ounces a year from brownfields.
Then, like everybody else, we're doing greenfield exploration. The chances are not so high, but if you do hit something, the reward is very big. It's a little bit like the lottery. We're starting to take an interest in Russia, and we've just opened an office in Mongolia because these are the least explored parts of the world.
Q: What's AngloGold's earnings picture amid the strengthening of the South African currency, the rand?
A: Earnings have taken a bit of a hit because of the strong rand -- but not nearly as badly as others. Our operating profits in the first half of this year compared to the same period last year were 7% down. We have a lot of earnings coming from places outside of South Africa. In fact, for the first half of the year only 33% of our earnings came from South Africa. So our diversification strategy has paid off.
The trouble with the rand is that while it probably is a little too strong on a fundamentals basis, what you're seeing is dollar weakness to a large extent rather than rand strength. To have the rand go back to where it was [against the greenback], the dollar would need to go back to where it was [against the euro and yen]. So we're not hugely optimistic that the rand will weaken in a steep fashion that soon.
Having said that, if dollar weakness is a cause of the high gold price -- as well as causing the strong rand -- we would much rather have a higher gold price. That's because a higher gold price affects all of our assets, whereas the strong rand only affects our South African assets. We would like to have "the penny and the bun," as the English say -- a weak rand and weak dollar -- but I'm not convinced that's realistic.