NO SURPRISES
Gold’s retreat in recent days from its brief flirtation last week over $1000 an ounce was no surprise. We warned in recent posts that the surge in secondary supply, particularly from Asian and Mideastern markets, and the worldwide collapse of fabrication demand left the price vulnerable — and an easing of investor interest could bring a sizable correction in the yellow metal’s price.
Moreover, when everyone seems to be jumping on the gold train, nary a bear is to be seen, bulls are uniformly revising upward their price forecasts, and the financial press suddenly gets all hot and bothered, well, you just know its time to take some profits!
With gold now around $940, off about $60 from its recent high, the yellow metal could still fall further before resuming its upward climb. A decline to the $900 an ounce vicinity — or even lower — is certainly possible, particularly if sentiment about the Obama-Geithner-Bernanke rescue plans for the banks and the economy continues to improve and equity markets seem a bit less fearful. As gold was marching to the $1000 an ounce milestone, it was a flight from equities that sent money into gold, much via the gold exchange-traded funds. So, if the show in Washington continues to get good reviews, as it has in the past few days, gold prices may come under more pressure.
Gold also remains vulnerable near term to further appreciation of the U.S. dollar against the euro and yen. In particular, if the European Central Bank cuts interest rates at its forthcoming policy meeting next week, a pop in the greenback could knock gold down another notch.
Eyes Wide Open
We want to keep one eye out for news from India about the flow of gold jewelry to the scrap melting pot and the prospects for a recovery of gold imports into that country, historically the single-largest national market for the metal. Record high prices — reflecting the continuing depreciation of the Indian rupee as well as the strength of dollar-denominated prices in the world market — are attracting the return of old gold jewelry from profit takers across Indian society. As a result, gold imports have been nil for the first six weeks of the year against 660 metric tons (21.2 million ounces) for all of 2008. Our friends in Mumbai say that gold imports for this year could still total 250 to 400 tons as local selling abates and some buyers return to the market. They say that those inclined to sell will soon have done so . . . and, overall, buyers and sellers both should gradually adjust to higher local prices.
And, we want to keep the other eye on gold exchange-traded funds. The very large purchases of gold bullion on behalf of gold ETF investors was the fuel that sent gold prices sky-rocketing in the past few weeks. Globally, gold held by the eight ETFs we monitor increased by a whopping 207 tons (6.7 million ounces) in the first 45 days of 2009. Since then, ETF-related gold demand has slowed to a trickle. In the week through February 25th, additions to ETF holdings grew by less than 0.5% versus 9.5% in the prior seven-day period.
Without continuing strong demand from gold ETF investors and with the continuing heavy flow of scrap from India and virtually every other major geographic market, gold is likely to remain under pressure.
Let’s not forget that gold exchange-traded funds are a two-way street . . . and money could start flowing out just as quickly as it flowed in. Importantly, if ETFs become big sellers, gold could come tumbling down to lower levels.
A more positive indicator of late has been the continuing high demand for gold bullion coins (like the American Eagle, Austrian Philharmonic, and South African Krugerrand). Market shortages, a reflection of inadequate mint capacity, has resulted in higher than normal premiums above the gold-content value. The United States Mint reports sales of 205,500 ounces for the American Eagle gold coin so far this year compared to 860,500 ounces in all of 2008. While these numbers are small compared to the 47.8 million ounces held on behalf of gold ETF investors around the world, importantly, this is metal bought by committed gold investors and it is not likely to come back to the market anytime soon.
Positive Surprises
That said, any surprises are likely to be positive for gold. Policy makers in this country and abroad are in uncharted territory without any clear road maps to navigate through the global credit mess and worldwide recession. There’s an old saying: What can go wrong, will go wrong. And, if things go wrong for the economy, gold prices are more likely than not going to benefit.
News about Eastern Europe’s inability to pay its debts to West European banks could trigger a worse scare about bank insolvencies. We’ve seen reports that Eastern Europe’s foreign debt amounts to US$1.7 trillion — with about a quarter coming due this year but lacking the ability and resources to stay current. Russia, Poland, Hungary, Ukraine, the Balkans and the Baltics are all in trouble — and, therefore, so are many banks in Austria, Sweden, Greece, Italy, and Belgian, all of which have been big lenders to the east. What we’ve learned is that problems in one or a few country quickly become global problems. And, the European Central Bank, dominated as it is by the Germans and the Dutch, does not have the commitment (unlike the U.S. Fed) to move quickly to bail out the endangered banks.
We are also reading more about the “imminent” U.S. credit card debt crisis. Credit card debt owed by Americans totaled $951 billion at the end of last year, with a third owed by “risky” borrowers with poor credit ratings. Total credit card debt and the proportion owned by high-risk borrowers is likely to increase in these hard economic times. Some say the default rate could reach 10% or higher this year, adding to the woes of the bank lenders. Moreover, like mortgages, student loans, and auto financing, much of the credit-card debt has been securitized so there may be problems for banks and investors in these bundled loan instruments like we saw when the mortgage crisis erupted.
Another possible source of support that could kick in this spring or summer is higher oil prices. Lately, back to $45 a barrel, some oil analysts are talking about oil in the $60 to $80 range in the next few months, now that OPEC seems to have gotten control over supplies and brought them down to a level that is already underpinning the price.
Bull Market Ahead
Regardless of gold’s moves in the days and weeks ahead, I believe the bull market is likely to continue for another two-to-three years or longer, thanks to the rapid pace of monetary creation in the United States and other major economies around the world.
By some accounts, the U.S. federal government has already committed nearly $10 trillion to prevent a total financial and economic meltdown and, over time, some of this will be paid for by printing money, the consequence of which is a devaluation of the dollar — not necessarily against other currencies — but certainly in terms of its general purchasing power and, even more so, in terms of gold. (For a good summary of my views and recent prediction of $2500 gold, see the report in MiningWeb of my recent interview on South Africa’s MoneyWeb Radio.)
One important reason I am confident about gold’s long-term outlook is that its current price is still lagging way behind the advance in the general price level (measured by the U.S. Consumer Price Index) over the past quarter century. To equal its January 1980 peak of $875 after adjusting for the rise in consumer prices over the past 29 years, gold needs to reach a current price of $2,400 an ounce. Looking back, it is clear gold at $875 an ounce was unsustainable, the result of a mania mentality. Similarly, looking forward a few years, gold at $2,500 or possibly still much higher, wherever the gold price bubble bursts and the cycle shifts direction from forward to reverse, will again be the product of a gold-rush mania or buying frenzy.
