Can you name a commodity that’s currently in a supply deficit—in other words, production and scrap material can’t keep up with demand? How about two?
If you find that difficult to answer, it’s because there aren’t very many.
When you do find one, you might be on to a good investment—after all, if demand persists for that commodity, there’s only one way for the price to go.
At the end of 2012, the platinum market was in a supply deficit of 375,000 ounces. Much of it was chalked up to the sharp decline in output from South Africa, where about 750,000 ounces didn’t make it out of the ground due to legal and illegal strikes, safety stoppages, and mine closures.
The palladium sector was worse: It ended the year with a huge supply deficit of 1.07 million ounces—this, after 2011, when it boasted a surplus of 1.19 million ounces. The huge reversal was due to record demand for auto catalysts and a huge swing in investment demand—going from net selling to net buying in just 12 months.
What’s important to recognize as a potential investor is that the deficit for both metals isn’t letting up, especially for platinum.
Since platinum supply is dwindling, let’s take a closer look…
Will the Supply Deficit Continue?
According to Johnson Matthey, the world’s largest maker of catalysts to control car emissions, platinum supply will decline to 6.43 million ounces this year, largely due to lower Russian stockpile sales. But the company claims the decline will be made up by a 7.4% increase in recycling.
Ha. Projections on scrap supply are almost always wrong. Analysts said in early 2012 that supply from recycling would grow 10-12% that year—but it declined by 4%.
There are critical issues with scrap this year, too…
Impala Platinum (“Implats”) reported a 17% decline in output, not due to decrease in production but in scrap supply. Other companies have not reported this problem, but Implats is one of the biggest producers of the metal.
Recycling of platinum jewelry in China and Japan is falling and is on pace to be 12.9% lower than last year.
European auto sales are declining, so one would think demand would be the most impacted. However, this has major implications for supply, too: The average age of a car in Europe is eight years, with more than 30% over 10 years old. When a vehicle exceeds 10 years, the wear and tear on the catalyst is so significant that a substantial portion of the platinum has already been lost. So the jump in supply many are anticipating will be much less than expected.
Some of these declines are offset by scrap from auto catalysts in the US, but this obviously hasn’t made up for all of it.
Demand Isn’t Letting Up Either
Platinum demand is driven mostly by the automotive industry and jewelry, which account for 75% of world demand. What happens in these two sectors has a significant impact on the metal.
We’ll let you draw your own conclusions from the data…
Auto industry analysts forecast total monthly sales in the US last month will reach about 1.23 million for passenger cars and light trucks, up 12% from 1.09 million in October 2012.
China, the world’s largest auto market, saw a 21% rise in passenger car and light-truck sales in September to 1.59 million units, an eight-month high.
PricewaterhouseCoopers forecasts that sales of automobiles and light trucks in China will have nearly doubled by 2019. This trend largely applies to other Asian countries too, becoming a constant source of demand for both platinum and palladium.
Both platinum and palladium will benefit from new regulations that take effect in 2014 in Europe and China:
Europe’s new “Euro 6″ emission regulation will force diesel vehicles to have new catalysts going forward.
China has already accepted tighter emission standards that will substantially push platinum demand in the country. It’s worth mentioning that car markets in China and other emerging countries are at the “Euro 4″ level, so they have some catching up to do before reaching US and European levels.
NewPlat, a platinum exchange-traded fund, launched in South Africa on April 26 and has already seen an inflow of 600,000 ounces through the end of September. This unprecedented surge is expected to lift platinum investment demand by 68% to a record 765,000 ounces.
Jewelry is the second-largest use for platinum, representing 35% of overall demand.
China dominates this market, and demand has doubled in the past five years. According to ETF Securities, China is well on its way to make up around 80% of total platinum jewelry sales in 2013—their report calls Chinese platinum demand “a new engine of growth.”
Johnson Matthey expects the interest for platinum jewelry to soften in China this year. However, a recent article in Forbes suggests the opposite may be happening:
A good proxy for Chinese platinum jewelry demand is the volume of platinum futures traded on the Shanghai Gold Exchange. Average daily platinum volume on the exchange in 2013 is running near 45% above 2012 levels, recently reaching a new record high this year.
Another indicator of Chinese platinum jewelry demand is China platinum imports. The latest data on China platinum imports for September showed the highest level since March 2011 at 10,522 kilograms (or approximately 338,300 ounces).
And this from International Business Times…
Net platinum inflows into China hit their highest levels in two and a half years … China’s net imports of platinum rose by 11%, to hit almost 70 metric tons for the first three quarters in 2013, higher than the 62 metric tons from the same period last year.
Overall, platinum demand is expected to be greater than ever before, reaching a record 8.42 million ounces this year. And this while supply continues to decline.
This supply/demand imbalance will likely continue for at least several years, perhaps a decade. Prices haven’t moved all that much yet, but that doesn’t mean they won’t. Prices of commodities with a supply/demand imbalance can only stay subdued for so long before reality catches up. Either prices must rise or demand must fall.
The other metal to take advantage of right now is gold. While there’s no supply crunch, the gold price is so low right now that it practically screams to back up the truck. Learn in our free Special Report, the 2014 Gold Investor’s Guide, when and where to buy gold bullion… the 3 best ways to invest in gold… and more. Get your free report now.
Unlike most commodities, there are many shades to gold. Some of shades include the Love Trade’s buying gold for loved ones, the Fear Trade’s purchasing gold as a store of value, gold in relation to monetary debasement (through QE and other central bank initiatives), dynamics of the physical vs the paper gold market, and so forth. An additional “shade” investors need to be aware of is how the Fed and the markets interpret the recovery of the US economy.
In a recent presentation, Frank Holmes of USFunds.com discussed those shades of gold with numerous charts. His presentation is called “Fifty Shades Of Gold” and is available below.
We picked out five interesting charts which we show in this article. The full presentation is available at the bottom of this article.
There is a clear correlation between the rising US deficit and gold prices:
Gold does not look like a bubble, despite its strong uptrend till September 2011, especially when comparing the gold price with two real bubbles (i.e. the Nasdaq bubble and the bubble of Brent Oil):
China’s rush to buy gold on lower prices and deliver the metal is significant and illustrates the difference in belief in the East vs the West:
“Follow the money” to China … in this case, “follow the gold” to China:
Unusual gold trading in futures market over the course of October 2013, both on downdays and on updays:
As we draw near to the close of November, I thought it fitting to provide a look at the gold chart over several time frames, near-term, intermediate and long term, in regards to the trend of the market.
For this purpose, I am using an old but reliable indicator known as the Directional Movement Index, which is as good as any others out there when it comes to determining whether a market is in a trending phase or is moving sideways within a range.
Let’s start with the Daily Chart first….
Notice, Negative Directional Movement ( the Red Line) continues to remain ABOVE Positive Directional Movement ( the Blue Line ) indicating that the bears are in control of this market. Further, the ADX line is rising indicating the presence of a STRONG TRENDING MOVE. Because -DMI is above +DMI, we know that the trend is therefore DOWN.
Let’s now shift out to the intermediate or weekly time frame. There is one very noteworthy item that immediately stands out to any technician: Negative Directional Movement has been ABOVE Positive Directional Movement since late November of LAST YEAR. In other words, the Bears have had control of this market for a full year now. That is why it particularly distresses me to read so much of the foolishness that keeps coming out of some quarters of the gold community talking about such things as BACKWARDATION, GOFO rates, COIN DEMAND, etc. It makes for interesting reading and such but is of no value when it comes to interpreting the language of the gold market itself.
Furthermore, the ADX line had been steadily rising since the beginning of this year indicating the presence of a strong trending move lower until the middle of July when the line turned lower indicating a disruption in the ongoing downtrend.
As the price of gold recovered from the spike low near $1180, it rallied up to near $1420 relieving the downward pressure for a bit. However, and this is important to note, the -DMI remained above the +DMI during this time frame. That means the rally was merely a pause in the ongoing downtrend and that the bears still had control of the market.
What gives me reason for concern with gold is the fact that the ADX is showing signs of turning higher once again. It is likely, not guaranteed, that line will show a definite turn higher if gold cannot close higher this next week. Also, the market is moving down into a dangerous area. If it cannot attract the same kind of buying that it did back in the summer of this year, when demand soared higher, chart support will not be able to hold. It is imperative for this market that demand for the physical metal ramps up significantly right away or there is the danger that gold could start yet another leg down in price.
The last time frame we want to look at is the monthly chart. Something that stands out to me on this chart is the fact that the ADX has never yet ( since 2001 ) moved higher while gold was in a corrective phase lower. In other words, on the monthly chart, we have not yet had a period during which the market was in a DOWNTRENDING PHASE. All corrections lower in price were just that, corrections, not changes in the ongoing UPtrend. As you can see, the Negative Directional Movement line remained BELOW the BLUE or Positive Directional Movement Line even in 2008 when we had the debacle in the market. Bulls were remained in control of the market, even if they did just barely manage that.
However, in March of this year, for the first time since the bull market in gold began back in 2001, the Red line or Negative Directional Movement crossed ABOVE the Blue Line or Positive Directional Movement. The BEARS had seized control of the gold market. Shortly thereafter, the ADX line began to rise for the first time in over a decade while the price of gold moved lower, indicating what looked to be an incipient trending move lower. However the price recovery off of that spike low when gold moved up some $240 or so in price, dented the downtrend and the ADX began moving lower once again showing that the market was going into a consolidative phase.
Significantly, with the fall in the price of gold from $1400 to its current $1242, the ADX is threatening to turn higher once again. It is not yet there but it is certainly not falling. Translation – gold is flirting with indicating a trending move lower on the LONG term chart.
This is the reason I have been bearish on gold now for some time – the charts are indicating that bearish pressure is building in the market and is hinting at building across all three time frames. It is imperative for gold bulls that the price recovers strongly before the end of this year to prevent heading into the New Year with a strong bearish bias. Index fund rebalancing might help somewhat but with hedge funds plowing money into the short side of the gold market, Asian and middle East physical offtake is going to have to be large enough to absorb Western-based selling.
What worries me about gold is that the hedge funds still remain NET LONG, even if that position has shrunk to relatively low levels. That means that there remains more than enough firepower to take this market lower if those remaining long positions have to be jettisoned in the event of a breach of downside chart support.
Keep in mind that the first chart to respond to any upside movement in the metal will be the daily time frame. Thus we will continue to closely monitor the price action so look for any signs of a market turn higher first on that chart.
Precious Metals ETF Trading: It’s been a week since my last gold & silver report which I took a lot of heat because of my bearish outlook. Friday’s closing price has this sector trading precariously close to a major sell off if it’s not already started.
On a percentage bases I feel precious metals mining stocks as whole will be selling at a sharp discount in another week or three. ETF funds like the GDX, GDXJ and SIL have the most downside potential. The amount of emails I received from followers of those who have been buying more precious metals and gold stocks as price continues to fall was mind blowing.
If precious metals continue to fall on Monday and Tuesday of this week selling volume should spike as protective stops will be getting run and the individuals who are underwater with a large percentage of their portfolio in the precious metals sector could start getting margin calls and cause another washout, spike low similar to what we saw in 2008.
ETF Trading Charts:
Below are updated with Friday’s closing prices showing technical breakdowns across the board..
Sweet & Sour ETF Trading Analysis:
Just to make things a little more interesting I would like to point out a couple other types of analysis.
Sweet: Through analysis of the CEF Central Fund of Canada Ltd. chart and evaluation it is clear precious metals are falling out of favor at an increased rate. This fund owns physical gold and silver bullion and investors are fleeing the fund so fast that it is now trading at a 7% discount of its asset value. While this may not seem good for metals I see it as a positive.
When everyone is running for one door after an extended moves has already taken place it tends to act as a contrarian indicator. Knowing that some of the largest percent moves in a trend takes place before reversing, I see this information as an early warning that a bottom will soon be put in place.
Sour: While the USD index has not been much help compared to 2012, I feel as though a rising dollar is likely to unfold for a couple weeks which may lend a hand to pulling the precious metals sector down.
Precious Metals ETF Trading Conclusion:
While I am starting to get bullish for a long term investment in precious metals I know that a bottom has likely not yet been made. But even if it has been, it is better to buy during a basing pattern or breakout to the upside from a basing pattern than to be underwater with a position for an extended period of time along with all the other negatives that come along with it.
I do like the idea of CEF as a long term investment when I feel the time is right. I have invested and traded it many times in the past. The key to trading the fund is to be sure you are buying it at fair value or a discount from the net asset value. You do not want to be buying it when it is trading at a 5-7% premium. The fund owns both gold and silver making it a simple diversified precious metals play.
Jim Sinclair explains that gold price setting is too dependent on the paper market, to such an extent that it has continued to live as the means of manipulating the paper price of gold.
What is “Free Gold.” It is the decoupling of the gold paper market influences on the gold price setting, or in other words freeing physical gold from price slavery to paper gold. The mechanism he describes is through the present time deletion of future exchange warehouse supply.
To achieve his target, Jim Sinclair has visited six locations in Singapore where cash and physical only exchanges for silver and gold were to be established. With his staff, he has tried to determine which of the six held the best promise for the gold market transition phase for price discovery away from paper gold and to physical gold material. He would put his shoulder behind the exchange that offers the global window to the real price of gold. That exchange appears to be the Singapore Physical Precious Metals Exchange.
Jim Sinclair writes:
Asian demand for physical gold is now in excess of supply and the declining Comex warehouse supply qualified for delivery. This is the mechanism for the emancipation of Physical Gold from the 41 years of price slavery to paper gold due to the cheap paper mechanism to manipulate the world gold price.
With the present time and predictable need to change the delivery mechanism on the COMEX to cash in order to avoid default on delivery, the reign of paper gold is ending. With this end we have the arrival of physical gold as the new discovery mechanism for the price of gold.
For the transition to take place it is necessary that we have functional global platforms for the trading of physical metals between peers of merit and a transparent price for global physical gold that exists nowhere for even professional public consumption.
There has been a clarion call from the long suffering holders of gold shares and investment gold for the Chief Executive Officers of gold companies to identify and take definitive action to end the slavery of the gold price to the mechanism of manipulation, the paper gold market. The advent of global platforms for and the true revelation to the gold public of the real gold price, the physical cash price on a 24 hour basis in the answer.
The cost of trying to manipulate this public physical price wherein delivery must be immediately made or payment presented immediately in full makes it too expensive to manipulate the gold price on a consistent basis. The paper gold market cannot move far away from the real physical price when the real physical price is globally known. Therefore to manipulate price the tricksters will have to participate on the physical exchanges thereby increasing their cost of their operation by orders of magnitude. That huge increase in the cost of moving price at will is the beginning of the end of paper gold ruling the physical gold price. That substantial increase in the cost of operation is the beginning of the physical gold market taking the position as the true discovery mechanism for the global price of gold. It is the beginning of the end of the reign of paper gold.
We CEOs of gold companies owe our stockholders economic production and all of our efforts to defeat the plans of the tricksters and their paper machinations that cost near to nothing and results in gold moving such as $1900 to $1200 when the true demand for physical over ground gold was on the rise and not on the fall. Where demand exceeded supply as paper gold was forced by bullies down from $1900 to $1200. This dichotomy in price is only viable via paper gold manipulation and must end here and now. To that object of “Free Gold” and the economic production of gold, I dedicate all my strength, all my contacts of 53 years in the business, all my knowledge of how to, and my capital.
In his weekly market review, Frank Holmes of the USFunds.com nicely summarizes for gold investors this week’s strengths, weaknesses, opportunities and threats in the gold market. The price of the yellow metal went lower after two consecutive weeks of gains. Gold closed the week at $1,244.33 which is $45.87 per ounce lower (3.56%). The NYSE Arca Gold Miners Index fell 7.83% on the week. This was the gold investors review of past week.
Gold Market Strengths
Demand for gold bars, coins and jewelry hit a record during the third quarter, according to the World Gold Council. The strong demand comes from both China and India, accounting for about 60% of total demand. Central bank gold demand also continues to move higher. Russia now holds the second-largest reserves in the world, with over 400 million ounces. Finally, we are now entering a time of seasonal strength for consumer gold purchases due to the Christmas holidays (US and Europe), the Lunar New Year (Asia), and Valentine’s Day (US).
Although somewhat delayed, billionaire hedge fund manager John Paulson maintained his gold holdings unchanged in the third quarter of 2013, according to his filling on November 14. This parallels what we have seen from other major gold funds in third-quarter filings, reflecting the fact that redemptions were very subdued, as across-the-board selling of top holdings did not repeat the mass liquidations seen in the second quarter. In addition, George Soros’ third-quarter filings revealed that he has moved back into gold stocks and has been decidedly bearish of the broader equity market recently.
Gold Market Weaknesses
Citi Research, in its annual commodities forecast for 2014, suggests that we will have strong physical buying (much from Asia) over the next year, limiting the downside for gold prices. However, the western buyers who are getting out of the market will likely continue to do so. Citi Research specifically pointed to two reasons why these buyers are getting out of the gold market, resulting in funds moving out of gold and into other asset classes:
Inflation concerns and expectations have all but evaporated, and
The opportunity cost of holding gold as opposed to other assets is high.
Organized price manipulators are still trying to panic investors into selling off their gold holdings, after the market potentially recorded the biggest part of its correction. On November 20 the COMEX had to suspend trading of December gold futures for about 20 seconds after the contract’s price fell about $11 within a minute. This happened before normal trading hours in the U.S. As often as this has occurred in recent weeks, it’s amazing that regulators ignore these multibillion-dollar speculative trades. Shareholders’ wealth in some of these publicly-listed firms could be quickly wiped out should the gold price rise.
Gold Market Opportunities
TD Securities, in its Precious Metals Outlook from November 19, outlined some positive data points summarizing third-quarter results. Earnings were generally better than expected despite the gold price posting its lowest average quarterly price since the third quarter of 2010. TD noted that 21 out of 27 producers that it covers met or exceeded consensus earnings per share estimates. Cash costs are declining faster than expected and all-in sustaining cost is declining. Finally, production growth is picking up, and on a 12-month rolling basis it is up 3 percent among the large cap producers.
Duan Shihua, a partner at Shanghai Leading Investment Management, says that gold demand will remain strong in China. There are very few places to put money in China. With the share market down and the government nudging people away from real estate, gold should remain a favored investment choice. Gold consumption should surge by 29 percent to a record 1,000 metric tonnes in 2013, based on estimates provided by 13 analysts.
The ratio between the NYSE Arca Gold Bugs Index and the gold price dropped last month to its lowest level since January 2001, when the first of 12 straight annual gains for the precious metal was beginning. The November 20 ratio reading was 3.2 percent above the low.
Gold Market Threats
Goldman Sachs again reissued its negative forecast on gold, predicting at least 15 percent in losses next year for the precious metal, as well as iron ore, soybeans and copper. This gloomy report suggests a drop in the gold price to $1,050 for 2014. Goldman believes that commodities will face increased downside risks even as economic growth in the U.S. accelerates.
The largest U.S.-based gold ETF holdings dropped to 863.01 metric tonnes, the lowest since February 2009. Selling from the ETF has been a major headwind this year as the Federal Reserve indicated it was considering an exit strategy from its accommodative policies. According to a Bloomberg survey, Fed policy makers will likely slow the pace of monthly asset purchases to $70 billion from $85 billion at the March meeting.
In his latest video appearance, Peter Schiff explains in detail the difference between gold and bitcoins. His main point: gold is real money because it has an intrinsic value!
Schiff first sums up the similarities between gold and bitcoins. He sees the following similarities:
one needs to put effort in mining bitcoins, so one actually expands real resources
there is a cost associated with creating a bitcoin just like there is with gold (in contrast to central banks that create pretty much limitless amounts of currency)
there is a limit there is a scarcity in that there are only 20 million bitcoins that can be mined
both bitcoins and gold are divisible (the idea is that you can break your bitcoins up into smaller increments for transaction just like gold)
On the other hand, there are some differing characteristics between gold and bitcoins:
one can instantaneously send bitcoin over the Internet
gold has to be protected as it could be stolen
it does not cost any money to store bitcoins in a digital wallet
Although bitcoins replicate all the properties of gold, there is one major fundamental difference: intrinsic value. Schiff explains:
Bitcoin does not have any intrinsic value. The reason gold became money was first it was valued as a commodity. It was a luxury good known throughout the world. You knew that if you needed something you could always buy it with gold (even if the person who accepted your gold didn’t want it he knew somebody else who did). Gold was uniquely suited to be money over a lot of other commodities and basically won the free market competition for money because it had a lot of other characteristics. These are the characteristics that bitcoin is replicating but they are not replicating the intrinsic value that made goal desirable in the first place. The only reason that anybody wants bitcoins is because they believe somebody else wants them; they want them to exchange them for the things that they want. People want gold for itself. Yes it can also be used to exchange but it has a value unique to itself. It has its own properties that are desirable; there is nothing you can do with a bitcoin except give it to somebody else.
Is it correct to think that, because it is easier to use bitcoin than gold, bitcoins have intrinsic value? Peter Schiff does not think so:
Go back to the original currencies. The original currencies were issued by private banks. In fact if you go back to the beginning, the first currency was issued by a goldsmith; somebody took their gold
to a goldsmith and gave a warehouse receipt for that gold. Now the person who owned a warehouse receipt from a reputable goldsmith, instead of going back to the goldsmith and fetching is gold, he might be able to take that receipt and exchange it with somebody else who had goods and services that he desired and the other person might accept it because they recognized the receipt, they know it’s a reputable mint, they know there’s gold there, and so that warehouse receipt can circulate as currency. That is what banks did. Before the Federal Reserve in 1913, private banks all around the US issued their own note currency. The currency was backed by gold that the banks had in their walls but it was easier to use the currency rather than lugging around gold, you can use these bank notes. So the original paper currencies had a benefit the gold did not have in that it was easier to use than the gold itself. But that did not give paper money backed by gold intrinsic value. The only reason the paper had value was because it was backed by the intrinsic value of gold.
Today we do not have legitimate currency, we have a fiat currency. There is nothing behind the dollar which is why people think what is wrong with bitcoin? There is a significant difference. The dollar
is legal tender here in America, other currencies are legal tender some place else. Even though I do not want dollars, the government only accepts dollars in payment of taxes. So there is a legitimate use for dollars even though they do not have any intrinsic value the way gold does. But bitcoins do not have any intrinsic value whatsoever.
To sum up, Schiff is pretty clear in this thinking that bitcoin is a bubble in the making. Whether it is ready to burst, or if it will go on for some (longer) time, he has no idea. This is why he thinks so:
So here is the problem. People are up advocating the use a bit coins as if it is a form of money. But it can’t be because bitcoins do not represent a store value. You don’t know what it quite you could be worth next week, next year, in five years. Nobody knows if it will be worth $0 or if somebody could come up with an alternative digital currency that maybe is more attractive than bitcoin. Somebody might come up with a legitimate digital currency that is actually backed by gold. In the meantime you have got a very volatile bitcoin (it swings in price). Most of the bitcoins that have been mined are not circulating; they are being hoarded by the miners or people who bought some other bitcoins when they were just pennies a piece; they are not being used in commerce, they are not being sold, that is one of the reasons that the prices are rising. A lot of people are trying to enter the market enticed into the market by the spectacular gain in prices. Again why are people buying bitcoins? They are buying them because they believe the price is going to go up; they are hoping to spend the bitcoins on something else in the future.
I’m not doubting the sincerity of a lot of the people who own bitcoin, I just think that their judgment has been clouded by the money and by the potential of a windfall IF what they are hoping to occur does. It is not going to happen because what makes gold money is not just the fact that it can be divisible or that it is scares but that it has intrinsic value on its own. Right now the price of bitcoin is going up and people are validating their belief in bitcoin by the rising price. That does not validate anything, it just as easily validates my premise that there is a bubble in bitcoins if there is legitimate value. When the tide turns, a lot of people are going to want to get out of bitcoins, not too many will be there at the other side of the trade and then when the price plunges you will have a lot of people that can be very upset because they paid a high price for their bitcoins. If you do not want to be in government fiat money, if you want to be in real money that can not be crated it will they can not be inflated away, buy gold. In fact, if anything, I think the recent weakness in gold has added fuel to the bitcoin fire because some people who might be buying gold but may be discouraged from the recent price declines, compare that to the skyrocketing price of bitcoins and jump to the wrong conclusions. I think it’s going up because it is a mania because it is a bubble. In the meantime, real value is being overlooked by people who are rightly concerned about all the money being printed, concerned about a currency crisis, and who want to do something about it to preserve their savings. Bitcoin has been around for about four years, gold has been around for more than 4,000 years. Will bitcoin be around in four years from now? I have no idea but I’m confident gold will.
Silver and other precious metals just can’t seem to get a break. There are several reasons one can think of for their lackluster performance on days like today: 1) the supposed FED taper 2) a skyrocketing stock market seemingly indicating all is well with the world, and 3) a sense that the US dollar represents the “cleanest dirty shirt,” as they say. When you add to this that commodity futures across the board are lower on the year, you get a sense that some sort of strong disinflation or deflation is in the cards. Now, if falling prices were occurring with a genuinely strong real economy, I might be inclined to agree that gold and silver are in deep trouble. However, when I look at the economic data globally, I actually see a re-emerging deflationary threat, one that could damage bank balance sheets and– if not handled properly– bring about a return of the headaches of the 2007-2009 period.
During those years, as you should know, gold and silver remained among the best-performing asset classes. I might add that gold and silver also managed to hold much of their gains into 2009, even as the broader commodity complex (following oil’s lead) got absolutely crushed. This happened because gold and silver are recognized at least by some as money– and not merely as commodities. This distinction is an important one– and is part of the reason why foreign central banks continue to accumulate gold, by the way, even if that buying has slowed down this year.
If we think historically, even many mainstream economists understand gold and silver primarily as deflation hedges. Although the example of the 1970s is the most recent example of gold and silver as inflation hedges, throughout history, whenever a depression appeared, premiums for gold and silver coins increased above their fixed monetary value. This history is often forgotten by some, especially those who focus only on the fact that the precious metals trade as commodity futures, or financial assets, even as other market participants view gold and silver as real assets.
As my coin dealer once told me, “there is always money for gold and silver.” This is all the more true of silver (along with platinum and palladium) where above ground stocks could be easily purchased by a couple of billionaires. The only question is what the catalyst will be to send prices higher.
The release of the Fed’s minutes– and more importantly, the way that the market obsesses over these minutes– speaks to the importance of the FED in getting things right with a monetary policy that is the sole driver of this stock market led “recovery” — that really is not a recovery at all for most people. Even Ben Bernanke understands the role of FED credibility in maintaining strong asset values. But as we all learned in 2008, the FED is very much a human institution, often finding itself responding to crises that it never saw coming. In other words, you should be careful leaving the future of your savings entirely in the hands of experts who are no better able than you or I at times to manage the complexities of the global economy.
The deflationary threats still remain. Ask yourself, can the average consumer handle rising interest rates? Can bank balance sheets handle a further drop in housing values? On the other hand, will the FED be able to taper if it senses that the animal spirits on Wall Street are getting out of hand? At what point will the credibility of the FED, or other central banks, be questioned if there is a widespread acceptance of the idea of a liquidity trap? Isn’t a rising stock market without a strong real economy precisely the kind of situation we think about when we remember crashes like 1929? You get my point– it seems to me that a lot of people are making light of real challenges out there in the real economy.
Yes, broader commodities may continue their trend lower– and so might silver and gold for the next several months or a year. But always remember what sets the precious metals apart.
And also remember how few people– especially now– really own them.
The announcement by Bernanke & Co. that the Fed would stay the course with its asset-purchasing program until it sees more evidence of a strengthening economy sent shock waves across the investment world. The Dow and S&P 500 has rocketed to all-time highs, and the dollar has plummeted. Interest rates have been dealt a stiff blow.
Though labeled as “stunning” by the mass media, the decision by the Federal Reserve supports what many in the alternative economics camp have been saying for years, which is that the American economy would come crashing down if the Fed were to scale back its monetary life support.
The very mention of the Fed tapering its asset-purchasing program was enough to send long-term Treasury rates on an historic upward march. While the Fed stated that it will not increase yield until 2015 or later, higher rates are ultimately inevitable given the unprecedented expansion of the US money supply.
In light of recent events and the historical, negative 82% correlation between gold and US real rates, I imagine many of our readers out there are interested, if not concerned, about how the yellow metal will fare when rates eventually do snap back to reality.
Relationship Between US Real Rates and Gold Deteriorating
Conventional wisdom suggests that higher rates are bad news for gold. However, as detailed in a recent special report by the World Gold Council, an environment of rising rates is not necessarily a death sentence for the yellow metal. In fact, excluding the high real-rate environment of the late 1970s and the early 1980s, US real rates have actually exerted little influence on gold prices. Going forward, this is more likely than ever to be true, due to the dramatic evolution of the gold market over the past two decades, which has been highlighted by a shift of influence from the Western to the Eastern world.
Though it stings of cliché to say it, the reality of the situation is that this time is different. Whereas higher interest rates may once have been enough to send gold prices into a tailspin, today’s gold market is marked by a weaker US dollar as well as the overwhelming majority of gold demand originating from China and India. Furthermore, when higher rates do eventually manifest, it will not likely be due to an improving economy but rather because of elevated risk perceptions associated with US debt. Given the market’s ongoing transformation, we remain bullish on gold in both a rising and falling interest-rate environment.
Although the relationship between US interest rates and gold has deteriorated significantly, benchmark yields will likely continue to influence price volatility, especially in the paper market, due to the size and liquidity of Western markets. However, as we like to stress, investing in gold is all about understanding the big picture, and there is no better way to play the fundamental forces acting upon gold than to take possession of physical product.
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Two weeks ago we penned Gold Bear to end with a Bang, and noted the increasing probability that precious metals could be headed for a plunge to new lows ahead of a final major bottom. Two weeks later we continue to hold that view. The forthcoming charts present levels at which the more than two year old cyclical bear market could end. At the least, these support levels can provide a point at which short positions and hedges could be liquidated.
The chart below shows that Gold has major trendline support just above $1100. Also note that the 50% retracement of Gold’s entire bull market is $1087. Keep these strong targets in mind.
Like Gold, Silver has major trendline support which could come into play in the coming days and weeks. Keep an eye on $17. Silver is currently underperforming Gold so pay more attention to Gold. It’s the “granddaddy” of the sector as some like to say and the most important component of the precious metals sector.
Meanwhile, gold stocks are approaching what amounts to be nearly 12 years of support. The GDM index below, is the forerunner to the GDX ETF.