Money Observer’s forthcoming August edition is chock-full of strategies and tips to tap the profit potential of property.

One of real estate’s attractions is in its name: it is more tangible than currencies, shares and bonds. That’s also the reason behind the ascent of gold, which recently hit $1,600 (£867) per troy ounce.

In ‘real’ post-inflation terms, however, gold is well shy of its 1980 peak price of around $2,400 (£1,486) in today’s money. Back then the gold rush was driven by double-digit inflation, the Soviet invasion of Afghanistan and a slump in mining output. Frankly, those problems seem trivial when compared with today’s ongoing financial crisis.

In the June 2011 edition I wrote: ‘I believe the only way is up for gold, mainly because monetary authorities are clearly attempting to inflate their way out of the debt trap by keeping interest rates artificially low, and the newly monied classes in emerging markets view gold as a store of value in their own inflation-hit economies.’

The ‘known unknowns’ of the eurozone crisis,  not to mention the ‘unknown unknowns’ of a looming US debt crisis and mutterings about a third round of quantitative easing (QE) to boost its flagging economy, are further fuelling gold’s ascent as dollar- and euro-based assets become less attractive to own. But what does it mean for UK investors when gold is rising and the dollar is falling? Reassuringly for gold bugs – whether they are in the US, the eurozone or the UK, gold is hitting new highs in all three of these currency zones.

In sterling terms gold has hit £1,000 an ounce, so it has doubled since the financial crisis broke in October 2008 and is up six-fold over the decade. Should you agree that today’s financial problems are far worse than those of 31 years ago, what’s to prevent gold from surpassing its 1980, inflation-adjusted, peak? That’s a question also asked by Julian Jessop, chief international economist at consultancy Capital Economics. He presents a variety of scenarios that suggest a target price of anywhere between $1,870 (£1,158) and $5,000 (£3,097). Even the lower target could yield a short-term profit of 15 per cent-plus in a short period.

First, he compares the gold price to other assets. Oil is one of the most interesting. At 13.5, the ratio of the prices of an ounce of gold and a barrel of Brent crude is some way below the average since 1970 of around 16. A current Brent price of $117 (£72) suggests a target for gold of $1,870. ‘But there have been several periods where this ratio has been in a range of 25 to 30, which, based on current oil prices, would imply a gold price of $3,000 (£1,858) to $3,500 (£2,168),’ Jessop reveals. ‘Even applying the lower figure of 25 to our medium-term forecast of $85 (£52) for Brent implies a gold price of $2,125 (£1,317).’

In contrast, gold is slightly expensive relative to its long-term average against US equities. The Dow Jones Industrial Average (DJIA) index is only around eight times the gold price, compared to an average of 10 since 1900. But Jessop points out that this ratio fell to a range of between 1 and 2 during the 1930s and again in the early 1980s. ‘If the DJIA were to fall by 60 per cent following some massive new shock, to around 5000, applying a ratio of between 1 and 2 would imply a gold price of $2,500 (£1,550) to $5,000,’ he says.

Another round of QE from the US Federal Reserve might also trigger the next big jump in gold prices. However, Jessop points out that while the US monetary base has increased by more than 200 per cent since September 2008, if the two had been directly related, gold should already have risen to around $2,800 (£1,736). ‘Perhaps it still might. But other measures of the money stock tell a different story,’ he says. ‘The US broad money aggregate, M2, has risen by less than 20 per cent over this period, and the ratios of gold prices to US M2 and nominal GDP are already some way above their long-run averages.’

Nevertheless, for all the reasons listed above, investors fear the worst for the global financial system. Capital Economics forecast earlier this year that gold would hit $2,000 (£1,240) in 2012. Now it predicts it could reach that milestone in 2011. I couldn’t agree more.

A cheap way to join the gold bugs

Shares in BlackRock World Mining Trust, which I had suggested in June as a decent way to play gold and gold-mining shares, have not followed the yellow metal’s ascent, having slipped from just under 800p to 772p. That is largely accounted for by a widening in its discount to net asset value (NAV).

The trust has not been immune to stock market weakness, although its NAV has marginally outperformed the UK market in the past two months.

Manager Evy Hambro says that the fundamental attractions of mining companies, such as exceptional levels of free cashflow, are not being recognised by the market.

At an 18 per cent discount, this trust is a superior (and cheap) way for investors to back gold and other mined commodities.

What investment trust managers say about gold

Catherine Raw, co-manager of BlackRock World Mining Trust: 

‘The current fundamentals in the gold market are supportive of higher prices. Investment demand has been the most important driver of the bull market to date and the key factors that have been driving investment demand – concerns about financial markets, eurozone debt and inflation – are likely to persist for the foreseeable future. The potential for further net purchases by central banks could also be supportive of prices. 

‘In terms of the gold equities, we believe that earnings will expand as gold prices rise and investors will be attracted back into the sector. The shares are currently trading at attractive valuation relative to bullion prices. The key threat to the gold market is an increase in real interest rates. When real interest rates begin to rise, the opportunity cost of holding gold will encourage investors to sell the metal. At the moment, we believe the interest rate and exchange rate environment remain bullish for gold.’

Francis Johnstone and Trevor Steel, managers of Baker Steel Resources Trust:

‘The short, medium and long-term arguments for the gold price are very much still intact, particularly for gold mining companies, which have some way to catch up to reflect the current gold price let alone a rising metal price.  We do not hold any physical gold but hold approximately 7 per cent of the portfolio in gold shares, which is set to increase to around 10 per cent of the portfolio. However, our policy is to be project specific rather than commodity specific, so we have no plans for gold to be any particular proportion of the portfolio.’

Will Smith, portfolio manager of City Natural Resources High Yield Trust:

‘City Natural Resources has long maintained an overweight stance in gold and silver and currently has around 30 per cent of its assets in the precious metals. Among the many events that would cause us to review our overweight stance are a rise in real interest rates, a return to trend growth in the developed economies and a credible solution to the sovereign debt and government deficit currently prevalent. We fully expect pullbacks in the chart, but the drivers of gold’s run are still valid and, on many criteria i.e. gold adjusted for inflation, the chart is not over-extended.’