First Eagle Gold Fund (SGGDX) is looking for the cheapest gold above or below ground as it aims to give investors a hedge against hard-to-predict macroeconomic events.

This precious metals fund's single-minded strategy is about replicating the safety of gold at the most competitive price possible and shouldn't be the only fund in an investor's portfolio, co-fund manager Rachel Benepe says.

"The idea is to have a strategic allocation of 5% to 10% of a diversified portfolio in gold and gold miners to serve as a hedge," she says. Benepe says a massive collapse in equity prices typically coincides with a rally in gold and a 10% allocation to gold through the Gold Fund could protect the portfolio against a 50% loss.

The fund's biggest investment holding is gold bullion, with about 17% of total assets invested in gold bars at present. Benepe says the fund searches for the cheapest gold available, and that means looking above ground as well as at ounces that have yet to be mined.

"We are using a propriety gold mining model," Benepe says. "If the ounces in the ground are cheaper than the ounces above ground, we buy the stock. As long as we can buy it with a sufficient margin of safety, that accounts for the risks inherent to mining."

Goldcorp Inc. (GG, G.T), is the largest holding and accounts for about 5% of the fund's investments. Benepe likes its low cost of production and the low political risk associated with the geographic location of its operations.

"They're functioning in mining jurisdictions that are well understood like Canada, Mexico and Argentina," Benepe says.

Another holding, AngloGold Ashanti Ltd. (AU, ANG.JO), has projects that are scattered all over the world. While some of its production is high-cost and high-risk, Benepe says the company is well-diversified and overall costs are reasonable.

"They've been implementing a large scale cost-cutting action plan in their mines," Benepe says.

Newcrest Mining (NCM.AU, NCMGY) made the cut when the company purchased competitor Lihir Gold, which runs the large, low-cost Lihir gold mine in northwest Papua New Guinea. Newcrest also operates in Australia.

All three companies are marquee names in the gold-mining sector, rather than up-and-coming explorers.

Since the fund's mandate is to provide a hedge through gold, "We tend not to own a lot of junior stocks -- the more speculative, early-stage projects -- because if those projects never come to fruition, then our hedge is worth zero," Benepe says.

Morningstar.com gives the fund a five-star rating, and analyst Janet Yang says the fund's combination of gold equities and gold bullion adds to its success.

"It's one of the most conservative funds because it tends to keep a large chunk of investment in bullion, and that tends to bring volatility down in a fund category that's fairly volatile," Yang says.

Yang says First Gold tends to historically outperform the FTSE Gold Miners index but lags the returns of a pure gold bullion investment like SPDR Gold Trust (GLD).

"This fund has returned 0.65% year-to-date, which is among the best for the category, and it's been able to do that largely because of that gold bullion allocation," she says.

The fund has had average annualized returns of 33.6% over three years through Monday, according to Morningstar Inc., lagging the category's average return of 40.1% over the period. Its one-year return is negative 1.2%, above the negative 10.9% average return for the category, according to Morningstar.

(Tatyana Shumsky covers precious and base metals for Dow Jones Newswires. She can be reached at 212-416-3095 or by email at tatyana.shumsky@dowjones.com.)

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