Five New Forces to Drive Gold Higher

Gold naysayers habitually point to the relatively weak performance of gold relative to the broader market over the last 5 years. Given the market today, that argument is increasingly wrong, and the naysayers are soon to either admit their mistake, or pretend that they were never naysayers at all. That’s because during the last 3 months, five major new forces have emerged to compound the previous strong drivers of the gold price up to now.

These new forces are as follows:

1. China has stopped buying U.S. debt.
   An interesting piece in the New York Times today signals that China, up until now the biggest buyer of U.S. Treasuries and bonds issued by Fannie and Freddie, is moving towards an end to that policy. China holds over US$1 trillion of such paper, and as interest rates collapse, there is less and less incentive for them to buy American.

   China has made several adjustments to programs that used to give banks and other financial institutions within the country incentive to buy U.S. assets, which means essentially that these same customers for assets will now be looking for Chinese products.

   The effect this will have on gold is two-fold. In the first place, reduced demand for U.S. debt will hamper Obama’s plans to keep printing money, because the one limiting factor that still seems to be respected in terms of how much paper can be printed, is the idea that there must be a counterparty to every issuance of T-Bills to warrant continued printing. Theoretically, less demand for T-Bills will force a rise in interest rates to attract investors. But that does not appear forthcoming, which will make the U.S. dollar weak relative to other currencies – especially gold.

   The second effect is that by eliminating incentives for Chinese banks to acquire U.S. denominated assets, investors there will divert more funds to holding gold as a hedge against their current U.S. dollar holdings, which will be diminishing in value.

2. Future discoveries of gold deposits will diminish dramatically.
   The biggest source of gold ounce inventory for major gold producers is the discoveries made by the several thousand juniors who scour the earth in search of favorable geology. With the collapse in base metals prices, many of these juniors are under increasing pressure to consolidate and downsize, and many more will disappear altogether.

   That means less money going into gold exploration, and that means the number of new discoveries that can be acquired by majors is going to go down sharply in the coming years. In theory, as gold continues to outperform all other asset classes, there will be a rush back into junior gold exploration, but that won’t happen until gold is taken much higher and investment demand for it soars.

3. Existing by-product gold production will fall sharply
   In copper, zinc and other base metals mines around the world, gold occurs in metallic deposits as a by-product of some other dominant mineral. In the United States, 15 percent of gold production is derived from mining copper, lead and zinc ores.

   With the collapse in prices for these metals, the by-product production of gold is most often insufficient to justify the continued operation of the mine profitably, and it is likely that a significant amount of this by-product gold production will cease along with the shutdown of these operations. The result will be less gold production from existing operations, contributing to the now even faster growing gap between supply and demand.

4. Gold is becoming mainstream
   One of the biggest contributors to gold’s unpopularity as a main street investment is that it has been mercilessly derided and ridiculed by mainstream investment media and institutions. There is very little opportunity for an investment advisor to insinuate himself into a gold purchase transaction, since most anybody who wants to hold the metal can visit their local bullion exchange or mint and buy as much as they’d like. Because the massive investment institutions that dominate the investment advisory business can’t make a fee out of advising you to buy gold, they try to convince you to purchase other asset classes which their firm has either originated or is a participant in a syndication of investment banks selling such products.

   Thanks to the widespread coverage of the questionable integrity of these complex securities, and since many main street investors have been burned by their investment advisors (they feel), there is increasing main street advice being doled out to buy gold. One need only search Google news on any given day to discover that headlines critical of gold are now replaced with headlines singing its praises.

5. Gold is the best performing asset class of the decade
   Now that the global financial meltdown has got up a head of steam, investors are hard pressed to find any investment that has performed well over the last ten years as consistently as gold. The chart below outlines this performance and appears here courtesy of James Turk’s GoldMoney.com.

Gold Performance: 2001-2008 (click to enlarge)

As you can see, any investment still returning an average of 10 – 17 percent is a winner, compared to everything else you can generate a chart for. As this intelligence permeates the none-too-quick popular investment imagination, and, combined with the other 4 factors, gold is going to be where the world’s next crop of millionaires is minted.

Comments

[bosun.j:]

#4 is the reason for most who deride gold within this forum. Wait for the howls of indignation!It is also the reason they use the slur "goldbug".

Thank you!

Jan 09 07:05 AM

[Conan the B...:]

After 8 years of upside and the Deleveraging of every other Commodity asset class, Gold will move up?

If the comments I've seen over the last 3 months are accurate there already has been a massive rush by the Public to buy Gold and Silver Coins.

"One need only search Google news on any given day to discover that headlines critical of gold are now replaced with headlines singing its praises."

But in spite of all of this Buying and bullishness, gold has not managed to go back above $900.

Meanwhile, India which has been the Prime Buyer of Gold for decades has seen significant demand destruction due to the Rupee's weakness and its own economic slowdown.

The public that was still able to buy gold bullion probably has done so, the rest are hunkering down and will postpone the purchase of everything as they await Obama's "the worst is yet to come" scenario.

China: China wants to increase its oil reserves, they want to buy gold, they want to decrease the value of the Yuan so that their products will be cheaper around the world and they would like to buy basic materials as cheaply as possible for their planned $600 Billion Stimulus.

Will a weak dollar and subsequent rise in all commodities aid them in their endeavours? Will a drop in the value of their USD Debt help or hurt.

As far as Obama is concerned, there will be 2 printing presses rolling. The Fed will be allowed to issue currency which will take pressure off the Treasury. Obama will get whatever he needs.

Just like Oil companies bought each other to increase reserves, Gold companies with strong balance sheets will snarf up those with assets and weak balance sheets.

Demand Destruction has started to hit Gold where it hurts the most...India. High end, low end Jewelry in the US has been hammered as well. How much gold will be returned to sender? Jewelry will not sit at the retailers as inventory.

The same sorry sales can be seen throughout the world's retailers. Ads offering cash for old gold Jewelry run 24/7.

Demand? Demand from whom? Who is left to buy it when "the headlines are singing its praises". But the world's economies haven't stopped sliding into deeper recessions.

Two years down the road, no problem. Now? Demand Destruction is still developing.

IMHO

Jan 09 08:17 AM

[ROLEX18K:]

It is not a secret to anybody who went bust in the 80's buying Gold on the top, no sorry, at the same price as now ( yes, I know that the Gold buggy will argue about inflation adjusted price of 2000-2500 $ an Oz in todays dollars blablabla but same can be said of Lumber that in today'd $ should be 1000 $ or sugar about 50 $ or Palladium 1500 $ etc.,etc blablabla ) that usually the strongest commodity that finally crashes, crashes the most.
In the 80's for example not any other commodity or asset crashed more in percentage than Gold, even Crude Oil that was bubbly then went down 20 30 % but not like Gold down for 20 years.
Today we are in the same movie but more dangerous because the role of Gold/Silver ETF's that are involved in the selling process of metals that they don't hold even a gram of it.Shocked?
Yeah, GLD or SLV don't have even an ounce of metal they say they do, this sexy pictures of fat guys with 100$ suits sitting on the pile of Gold bars are nothing more than - p i c t u r e s.
Who you think will sell this guys a tonne of gold? Gold is a manipulation asset controlled by IMF that acts as a single trader in Gold for other Central Banks, jewellers can buy physical Gold, no problem no questions asked but how much you think they buy?
I can assure you it is about the same as in 1980's.
If you really believe, that guys from GLD or SLV are holding 1 ounce of it in your name, you must be naive, good hearted fellow as they sold your Gold/Silver and are selling regularly, this is how they make money and this is their agreement with the Fed, you are just an investor in the bigger Ponzi scheme than Madoff and when the floor will be cleaned the dust will fly, think if you are one to clean and decide or the one to fly.

Jan 09 08:34 AM

[SW Richmond:]

Yes, the irrational dollar bugs are coming for your head, watch out! Unable to break their long-held emotional attachment to their precious safe haven strong dollar conspiracy policy/theory, they will tell you there must be a world reserve currency, that fundamentals don't matter, and that since there are no other candidates the one that sucks the least will remain the leader! Some will even tell you it's OK if their enviable dollar is backed by worthless MBS!

MUAHAHAHA!

Jan 09 08:41 AM

[De Graaf:]

Dollar bugs...Whuahhaha

In order to survive with the fittest, you should consider becoming a Gold bug.

I didn't know the dollar bug still existed after all this evidence shown recently in US markets. The dollar is going banana's.

Dream on dollar buggiezz

Jan 09 09:24 AM

[goldis4ever:]

>>>>China has stopped buying U.S. debt.<<<<

Did it look so obvious that the U.S. took them for suckers that they had to act now?

Jan 09 11:25 AM

[Smarty_Pants:]

SWRichmond gets a plus for effective use of 'MUAHAHAHA!' and the term 'dollar bug' in one post.

The Mighty Mogambo would be proud.

Jan 09 12:07 PM

[Lonestar1:]

There is no argument that $ has never been in such precarious state in its entire history. The break from the gold-peg did not cause a catastrophic collapse of $ was due to the fact that the west, including Japan, has to stay united to defeat a more pressing threat, i.e., the Soviet Union's expansionary policy. Instead, the $ is allowed to slide gradually and became "your problem" for the west. It was a small price to pay.

Today's world is different. $ is anchored to nothing. Or perhaps it is fair to say that $ is now pegged to a mix of Chinese yuan and Japanese yen, not the other way around as popularly manifested. Its strength in 2008 was derived from these two sources, in my mind. This is strange, because credit should be offered by producers, not the buyers.

And Europe is not threatened by anybody. That's why they were so itchy on G20 meeting in November. That is not to say they will have any chance to be successful. Indeed, they will have no chance.

I agree with the point 1 that this zero yields angered China and Japan. However, it is inconcieveable they would unwind their $ holdings, but there is no assurance that other lesser "stakeholders" wouldn't do so. Turbulance to come, for sure.

Gold is not an anti-$ trade. It is when all currencies are in question, which is clearly the case still unfolding given all the printing of paper money around the world, inlcuding China. How this is going to settle is wide open.

Jan 09 12:07 PM

[moonbat1775:]

Gold or fiat,
is there no other way?
Whatever happened
to American creativity?

Take honesty (100% reserve),
add liberty (competing banks and monies),
add creativity (lend to equity)
and for those who can see
you get 100% reserve
equity backed monies.

Jan 09 12:52 PM

[GMiki1:]

I recently sold a little gold for $866 that I had bought at $401. I call that gold doing its job. I bought it only four or five years ago, so that's a pretty good rate of return. I have other gold I bought for under $300.

I also had had some Treasuries at 6 percent that doubled in 12 years. I wasn't displeased, but obviously times have changed. We're in a gold bull market and Treasury bear market.

Jan 09 01:15 PM

[lance sjogren:]

The one argument I don't buy is #5. "Past performance is no indicator of future results".

As a contrarian, I would be more attracted to gold if its price performance during the 2000s was ROTTEN.

Nevertheless, I think it is still WAY undervalued.

Jan 09 02:33 PM

[GMiki1:]

Funny (odd) that Marc Faber just took a negative stance on gold based on evaluating all commodities. Also odd that a couple of places just downgraded GG because of recent results and despite GG's projection to double production in five years.

Jan 09 03:01 PM

[Conan the B...:]

Gmiki: I still have some of the 1 oz. Sunshine Mining coins issued in 1982, .999 silver. Had I held Treasuries, I would have made some serious money. (then again, they might be worth more as collector's items)

Gold is at the previous highs of 26 years ago. Those people have been in limbo waiting to break even, given inflation over that time span.

Gold goes up but it doesn't go up forever. With 5,000 years of history behind it, Gold should certainly have a greater value than a measly $1,000, 5,000 years of inflationary value should translate into something more meaningful don't you think?

Jan 09 03:25 PM

[Gold Barron:]

I prefer to think of my Gold/Silver bullion as insurance. I have 25% of my portfolio allocated to Gold/Silver bullion.

Jan 09 04:44 PM

[Gold Barron:]

The driving factor for gold is TRUST. The FED and US government change the rules constantly. They could come out next Monday and devalue the dollar with no regard or concern of who that would harm.

Maybe Obama cold get us back on a gold standard so things are fair. He is supposedly a constitutional expert. Lets see if he abides by it.

It doesn't matter whether the gold standard is wise or not. Article 1 Section 10 of the United States Constitution says it shall be so. No amendment has been passed to change that. End of discussion.

If we are a nation of laws, our institutions must be lawful. The Fed and the monetary system we have now is NOT lawful.

Jan 09 05:10 PM

[Long Silver...:]

In the early 1600's, King Phillip of Spain wiped out his war debts by debasing copper coinage by 2/3rds, fueling rapid inflation. In the 1930's the US government confiscated gold, devalued the paper currency by 41% and the Supreme Court then refused to honor the promise written on every Gold Certificate that the bearer could redeem it for "gold coin" on deposit with the Treasury. Trust is indeed the word, and it's rapidly running out.... you can't trust government, you can't trust investment advisers, you can't trust public companies, you can't trust their auditors. But you can trust an American Gold Eagle in your hand. It is the only asset without counterparty risk and the need to trust someone.

Jan 09 06:51 PM

[Long Silver...:]

BTW, on the gold standard: I was for it originally, but have lost hope that our government leaders would ever actually reinstate the gold standard. Instead, I look to digital gold currency from the private sector as the more likely de facto gold standard for currency. Check out sites like goldmoney.com. It's a pretty cool concept. Of course, you need to trust the company and also trust the auditors. Sort of getting back to American Eagles as the best solution...

Jan 09 06:54 PM

[Conan the B...:]

Long John: "you can't trust Government"

The Roman empire used pure gold as their currency. But as expansion took its toll, each coin held less and less Gold.

Do American Eagles really have the required Gold content? The Government says yes. Who verifies it? The Government does.

I would rather go with the Collectible Crowd, than Trust the current Government.

Jan 09 11:09 PM

[kwr:]

Great post. Your 4th reason of why gold will move higher ---- that it is becoming mainstream --- is a very good one. There was an article this week in the Telegraph in which a manager at Merrill Lynch mentioned that their wealthy clients are moving into physical gold. New trend.
I decided to write a post on this as well ---- Gold: Profitable and Fashionable.
KWR
bullinachinamarket.com

Jan 10 12:03 PM

[daniel3582:]

I don't trust people articles or advisors that begin outlining reasons why such and such a stock will move higher, or such and such a commodity will go up/down.

I'm not a goldbug. Nor am I one of those people who take pleasure in bashing them. I am of the cult of people who don't let irrational feelings of "belongingness" cloud my judgment.

There were dozens of articles like this being written last year. Gold promptly shed 35% of its value while everyone was saying it was headed for $1500/oz. I'm sure gold will enter a huge bullish trend. I'm also sure it will enter a huge bearish trend. Which one will come first? How long will it last? I don't know, I don't trade this commodity. What I am sure of is that each party will claim that they predicted this price movement all along...

A broken clock is right twice a day...

Jan 10 02:08 PM

[HMS:]

I totally agree.


On Jan 10 02:08 PM daniel3582 wrote:

> I don't trust people articles or advisors that begin outlining reasons
> why such and such a stock will move higher, or such and such a commodity
> will go up/down.
>
> I'm not a goldbug. Nor am I one of those people who take pleasure
> in bashing them. I am of the cult of people who don't let irrational
> feelings of "belongingness&amp... cloud my judgment.
>
> There were dozens of articles like this being written last year.
> Gold promptly shed 35% of its value while everyone was saying it
> was headed for $1500/oz. I'm sure gold will enter a huge bullish
> trend. I'm also sure it will enter a huge bearish trend. Which one
> will come first? How long will it last? I don't know, I don't trade
> this commodity. What I am sure of is that each party will claim that
> they predicted this price movement all along...
>
> A broken clock is right twice a day...

Jan 10 03:34 PM

[hedgeman:]

Sometimes it is better to simplify things (taking the "why?" out of the equation)... Gold deserves to be the champion of conspiracy theories out there given its long long history but thinking too much about it doesn't help to make some money with gold.

If you just look at the market with no bias (bias meaning believing something moves due to the factors we have identified) it is consolidating. It reminds me of the time EURUSD first hit 1.367 and then fell back almost 2000 pips and consolidated until majority of short term money lost patience with it. We all know what happened later on...

So a detached view shows a very high probability gold is at a similar point in time. It will most probably go higher to some 1200$ level in 2009 where everyone will buy the 2000$/oz idea. That will be a turning point. From there it can again consolidate or move up parabolically. 1200$ coincides with a long term DX target of 65.xx and should be hit for the cycles to reach their decision points. 1200$ gold and 65 DX is where USA empire will be in front of historic jury. The vote is yet unclear.

Disclosure: Long and not in a hurry, would decrease exposure on daily close bellow 825 by 66%.

Jan 11 05:00 AM

[HuiOf Maurice:]

For my part I believe, that gold will go up. In the eighties it was a different picture: All the governments aggressively sold their reserves, because they didn*t need them anymore! Bretton-woods..... Last week I acted like this: Sold one 660 $ option 12/12 for 10,300.00 US$. So even if the gold plunges to 550, I didn*t pay too much........Have a good day.

Jan 11 12:13 PM

[31October:]

Re: Gold Barron "Maybe Obama cold get us back on a gold standard so things are fair. He is supposedly a constitutional expert."

President Obama has pledged to eclipse all previous levels of spending. His promises are so far removed from protecting the dollar that I would assume he has a shiteload of 24k hidden somewhere. The entire federal government is dedicated to the orderly collapse of the dollar, just to cover existing debt; and a gold standard is the LAST thing anybody in D.C. wants.

Maybe the president is an expert on the constitution. It doesn't mean that he believes in it.

Jan 22 04:41 PM

[psig:]

What if the government confiscates the gold and resets its price like they did in the 30's. Bought up gold at $20 and repriced it at $35 in 1933. Today that would be be buy it up at about $850 and reprice it at $1400. Why not reprice it at $5000 or whatever they could get away with after confiscation and take care of a boat load of the debt the gov't is incurring?
What would that do to the economy?

Jan 26 10:34 PM