2010: Gold & Silver Expectations in Brief
Gold has enjoyed a long and enviable climb, rising some 380 percent from a cyclical low near $255 an ounce in April 2001 to an all-time high just over $1,225 in early December, 2009. Although the bull market will celebrate its 9th birthday this year, it still has a long way to go, both in magnitude and duration.
I expect the yellow metal will hit $1,500 an ounce - or higher - during the New Year, a gain of more than 35 percent from its December 31st close.
And looking further ahead, gold’s bull market will likely continue for another few years, carrying the metal to a cyclical peak of at least $2,000 and quite possibly much higher. Indeed, the probability of gold eventually exceeding $3000 or even more in the next few years seems to be rising as America seems headed into years of stagflation!
At the same time, silver could very well outperform gold, rising from $17 an ounce at the end of last year to an annual high of at least $25 sometime during 2010, a gain of more than 45 percent from last year’s close.
Even with sub-par economic growth in the United States and Europe, demand for silver (and other commodities) from the high-growth Asian nations will put upward pressure on prices.
While silver’s advance will mostly reflect strong cyclical growth in both industrial and investment demand, gold will benefit not only from cyclical forces but also from a rising secular expansion of investor participation, central bank reserve diversification (which is only just beginning), and an irreversible erosion of the U.S. dollar as the single dominant reserve asset and denominator of much world trade.
As a result of these secular developments, over the next decade and beyond, the long-run average price of gold (stripping away the major cyclical bull and bear market swings) will be considerably higher than past experience would suggest . . . and considerably higher than many analysts and investors would dare imagine.
Buying Opportunities
In the meanwhile, both gold and silver will continue to stumble from time to time with continuing high price volatility. As in the past, changing expectations about U.S. interest rates and Federal Reserve monetary policy as well as other international developments that may benefit the dollar exchange rate will trigger reversals in the prices of these metals.
Economic statistics indicating a more durable recovery or accelerating price inflation at times may lead some to believe the Fed will begin tightening policy sooner than later - and this could briefly push the dollar higher and gold lower.
Indeed, tough talk by the Fed or hints of an imminent increase in the Fed funds interest rate - and, even more so, the first step up in this key policy rate - will almost certainly trigger a dollar rally and selling of gold and silver. However, any tightening by the Fed will be too little, too late to reverse the eventual rise in U.S. inflation and depreciation of the U.S. dollar. As long as the rise in U.S. inflation outpaces each incremental increase in nominal interest rates — so that real (inflation-adjusted) interest rates remain near zero or in negative territory — monetary policy will be too accomodative and impotent to stem the tide of rising inflation.
Similarly, fear of sovereign debt defaults by one or another European country (or elsewhere) could also benefit the dollar and temporarily hurt gold. But gold is the ultimate safe haven and the dollar, without the support of sound monetary and fiscal policies, is a depreciating asset, tarnished by an erosion in its real purchasing power, so those seeking safety in the greenback will do so at a heavy cost.
It seems dubious that the dollar’s real and enduring worth will benefit from rising fear of sovereign (or corporate) defaults. In my view, the greenback’s real worth is mostly a function of U.S. monetary policy — and the rate at which the Federal Reserve is creating new money relative to the demand for U.S. dollars. If anything, the demand for dollars is growing less rapidly than its historical norm — and may be shrinking — as foreign central banks and private investors seem increasingly uncomfortable holding a growing pile of American debt.
As in the past year, these occasional reversals will lead some to believe the party is over for precious metals - but I believe periods of weakness will be opportunities for those underweighted in gold and silver to augment their holdings of physical metal.
No Bubble Here
There continues to be much talk from gold’s detractors that the strong advance in the metal’s price over the past year is nothing more than a speculative bubble ready to burst . . . and, when it does, the price will come tumbling down. But, in my view, gold’s strength is built on solid fundamentals - fundamentals that gold bears, among them a number of eminent economists, fail to recognize.
Very briefly, these positive fundamentals for gold are:
U.S. monetary and fiscal policies will remain extremely expansionary and, ultimately, inflationary. The Fed has pledged to keep interest rates low for an “extended period” and stimulus dollars will continue to flow from Washington until there is considerable improvement in labor market conditions and a sustained decline in the rate of unemployment. In the meantime, there remains considerable risk that consumer spending will wane as households tighten their belts, worry about their jobs, struggle to pay their mortgages and local taxes, and default on credit cards and other debt.
With Federal debt now over $12 trillion and annual deficits projected at over $1.5 trillion for years to come, the Federal Reserve will be forced to buy more Treasury and mortgage agency debt with newly printed money, eroding the dollar’s purchasing power at home and abroad.
Most policy makers and private economists don’t recognize the threat of inflation, arguing that anemic growth in the United States and continuing excess capacity will make it very difficult for businesses to raise prices. What they are missing are the robust recovery and growth prospects for China, India, South Korea, Indonesia, a number of other Asian nations, and Brazil. These countries have a rabid appetite for raw materials and agricultural commodities that will push prices higher irrespective of America’s lackluster economy — and the influence on U.S. inflation will be magnified by a declining dollar.
Strong continuing central bank demand for gold as more countries strive to diversify their official reserve holdings. And, announcements of purchases by one central bank or another could trigger a swift price rise, much like India’s announcement last year that the country had bought 200 tons from the IMF.
The past year was a key turning point in the modern history of gold as a reserve asset. Central bank attitudes toward gold are becoming increasingly positive. After years of net central bank sales, the official sector in the aggregate became a net buyer of gold, even after accounting for more than 200 tons sold by the IMF.
China was the biggest buyer last year, adding 454 tons to bring its total central bank reserves up to 1,054 tons. In reality, much of this gold was purchased by other government entities in prior years but was not transferred to official central bank reserves until last April. And, it is probable that additional quantities were similarly purchased last year — but have not yet been transferred to the central bank.
Other big official buyers were India, which purchased 200 tons directly from the IMF, and Russia, which bought 111.8 tons from its own mine production. Among the other central bank buyers were the Philippines, adding 16.6 tons; Kazakhstan, 2.6 tons; Belarus, 8 tons; Sri Lanka, 10 tons; and Mexico, which bought 5 tons.
Expanding investor interest with more individuals and institutions viewing gold as a legitimate asset class, portfolio diversifier, and insurance policy. ETFs and other new instruments in various local markets (such as “paper gold” and bank accumulation plans in China or internet platforms and postal distribution of gold coins in India) are making it easier for investors to participate.
And, importantly, ETFs are allowing institutional participation by funds, pensions, endowments, insurance companies, and other institutional investors that are prohibited from buying commodities (including gold) and futures contracts.
World gold-mine production will continue its long-term decline for at least another five years - or longer without the incentive of still higher gold prices. Beyond five years, world gold mine production may begin rising as higher prices encourage more exploration and development . . . and make higher cost, lower grade ores economic.
Expanding and evolving geographic markets, particularly China, India, and elsewhere in Asia where incomes and wealth are rising (and new distribution channels are evolving) means that more people with a traditional cultural interest in gold will be buying substantially more gold jewelry and physical gold investments than ever before.
China — Changing the Gold World Forever
Too many gold-market analysts and economists are suffering from gold-market myopia - focusing almost exclusively on U.S. economic policy, U.S. economic indications, and the U.S. business-cycle outlook. But they are missing the just-as-important (if not more important) emerging economic landscape and outlook in China and other more-robust economies around the world.
Just look at China:Â Recent indicators point to a “V” shaped recovery with rising personal incomes and employment — and, importantly, a growing service sector that makes prospects less dependent on demand from the United States and Europe.
I can tell you from my recent visit to Shanghai that China’s largest city is booming with new construction — office towers, apartment blocks, roads, and bridges — rising everywhere, streets crowded with shoppers, and auto sales so strong that many buyers wait months for delivery. Meanwhile, after nearly a year of falling consumer prices, inflation in the past couple of months has begun to stir and inflation expectations are on the rise, contributing to the growth of investor interest in gold.
Since the legalization of private gold investment about two years ago, a well-developed gold investment infrastructure has sprouted up with gold investment products available across the country at banks, gold retail outlets, jewelry shops, and department stores.
We think China’s private-sector investment purchases totaled between 85 to as much as 100 tons (2.7 million to 3.2 million ounces) last year — and could rise by more than 50 percent in 2010 as rising incomes and rising inflationary expectations give more people both the means and the motivation to invest in the metal.
In addition, jewelry, which is bought both for adornment and as a store of wealth, totaled another 350 tons (11.3 million ounces) last year and could grow by 100 tons or more this year.
