By Julian Murdoch
Friday night's headlines were straightforward: "Gold surges to top $800 on safe-haven buying." And most of the analysis followed a familiar pattern:
- The price of gold has declined as a result of liquidity selling
- Once everyone sells the gold, the market will stabilize
- The price will rally as investors seek a safe haven in the face of monster money-printing by the U.S. government
It's a convenient story, and one that makes some prima-facie sense. But like any Monday morning quarterbacking (including my own), there's rarely a way to actually know exactly why something goes up and down. Except, of course, for supply and demand. It's always about supply and demand.
Which is why I was planning on writing about gold this week even before we saw the metal pop almost 6% Friday, to close at $801.60 (NY Spot), and before we saw the big gold miners like Barrick have monster days, with that company closing up 31%. Pops like that are enough to make anyone sit up and take notice, despite our general concerns about buying miners vs. metals.
Hence my plan to cover gold. The third week in November, you see, is when the World Gold Council releases the supply-and-demand numbers that carry us through the end of the year. And the astonishing thing isn't so much the numbers, but that they seem to have gone largely unnoticed by the press in describing the rally. Let's take a look at the charts.
There are a few points to note here. First, this measures demand in tonnes, not in dollars. We'll get to dollars in a second.
But the big thing to note here is that the 2008 number is an estimate that we've created by applying last year's Q3-to-Q4 trends to 2008. From Q3 to Q4 2007, gold demand dropped an unexpected 15% on a tonnage basis. The chart above suggests that, even if gold demand falls again, total tonnage demand for 2008 will equal 2007. If Q4'08 demand instead remains steady heading into the end of the year, total 2008 demand will be the biggest in the last five years.
Regardless, however, the strong continued demand, particularly from the investment community, is even more dramatic in dollar terms.
In dollar terms, gold is experiencing tremendous demand growth. There's no rocket science here: The average price of gold in 2007 was just under $700. The average price of gold in 3Q 2008 was $871, down from the first-quarter average of $924. All that means is that that same physical demand is coming at a time of rising prices (or a weak dollar, depending on your perspective).
To put the demand in perspective, here's the juicy tidbit direct from the World Gold Council press release:
Dollar demand for gold reached an all-time quarterly record of US$32bn in the third quarter of 2008 as investors around the world sought refuge from the global financial meltdown, and jewelry buyers returned to the market in droves on a lower gold price. This figure was 45% higher than the previous record in Q2 2008. Tonnage demand was also 18% higher than a year earlier.
This dollar demand is driven almost entirely by increased demand from exchange-traded funds and physical coin investments, offsetting a decline in jewelry demand.
To be fair, this continued demand wasn't entirely unexpected, nor was it completely unreported. Most of the weekend paper hyperbole about the gold rally did pay homage to demand, albeit without citing the nice hard figures we have from the World Gold Council. But what seems really underreported is that the actual supply demand deficit is frankly staggering.
The reasons for this deficit are fairly straightforward: The quarterly demand is high, and one of the major sources of supply over the last few years has dried up - sales by central banks. The Central Bank Gold Agreement, which set limits on gold sales in 1999 to stabilize the market after the foundation of the euro, is set to run its course in 2009, but the 2008 limits on CBGA sales (500 tonnes per year) aren't even close to being reached, and the reality is that European central banks may simply be done offloading their excess gold reserves.
If true, that means a major source of supply is simply going away. It's easy to visualize a pathway from the central banks into the hands of investors-a shift in ownership. But that shift in ownership may be complete, and thus, if investor demand continues, it will rely on other traditional sources of gold-namely mines-to get at the stuff.
That would set the stage for continued deficits, higher prices and busy miners. It strikes me that that's the real story of last week's rallies.