A summer of many more downs than ups is finally coming to an end. Our team has maintained the opinion that a strong fall is upon us and we are sticking to that prediction.
Instead of the normal, boring summer doldrums where many small-cap stocks lose 5-10% of their value due to a lack of liquidity, we had a very real, harsh summer correction across all major exchanges. $8 trillion was erased from the global equity markets in August. Even gold, the bright spot of the summer, reminded us this week that every dog has its day. The correction in gold was healthy and necessary for its continued run - which it may have resumed on Friday!
We viewed gold's pullback this week as positive, only adding to our belief that gold is far from a bubble. Now, before you write us off as just another group of maniac gold-bugs, keep reading.
If one takes the time to really analyze global asset allocation in 2011 compared to what it was a few decades ago, one will find that the gold sector is underinvested in and that less than 1% of global assets are situated in gold. How can anyone say that gold is a bubble about to burst given that statistic alone?
To elaborate on this topic, we found one of the best explanations of why gold is not in a bubble. If you are invested in gold bullion, producing gold companies, or juniors with proven or soon to be proven gold resources - this is a must read!
The below excerpt is taken from the article, "Debunking the Gold Bubble Myth," and was authored by Eric Sprott and Andrew Morris in March of 2011.
"In their Gold Yearbook 2010, CPM Group noted that in 1968, gold held by individuals for investment purposes represented approximately 5% of global financial assets. By 1980 that amount had fallen to roughly 3%. By 1990 it had dropped significantly to 0.6%, and by the year 2000 represented a mere 0.2% of global assets. By the end of 2009, nine years into the gold bull market that began in 2000, they estimate that gold had increased to represent a mere 0.6% of global financial assets - hardly much of an increase. Gold ownership didn't change much last year either, as we estimate that this percentage increased to 0.7% of global financial assets in 2010. So despite gold reaching record nominal highs, the world holds about the same portion of its wealth in gold as it did over two decades ago. While this probably says more about the proliferation of financial assets over the past decade than it does about gold investment, it is surprising to note how trivial gold ownership is when compared to the size of global financial assets.
The increase in gold ownership from 0.2% in 2000 to 0.7% in 2010 is also misleading. If you consider the approximate $227 billion that was invested in gold bullion in 2000, that level of investment would have grown to $1.18 trillion, or 0.6% of financial assets, by the end of 2010 - based purely on gold appreciation alone. In other words, the actual amount of new investment into gold since 2000 represents only 0.1% of current global financial assets, or about $250 billion. Although this number may seem large, consider that roughly $98 trillion of new capital flowed into global financial assets over the same period, so gold's approximate 0.3% share of global investment flows is essentially trivial.
The 0.7% ownership data point also has interesting implications for global gold ownership going forward. Consider that to return to a meaningful level of gold investment, say to the 5% level of 1968, it would require over $9 trillion of gold investment today, or about 6.5 billion ounces of gold at the current gold price. This would represent well over 1.3 times the amount of gold ever produced throughout history and four times the amount of known gold reserves. So not only is the public relatively underinvested in gold, but at current prices it isn't even possible to increase our gold holdings back to a meaningful level."
These stats reiterate that gold is far from being in a bubble stage. One must also factor in just how many more people live on this earth since 1968 and the shift of wealth that has been occurring, from west to east, in the past 10 years alone. The people of India and China are believers in gold's long-term value, much more so than the majority of those in the west. The more wealth created in those countries, the bigger the demand will be for gold.
Imagine a very plausible scenario where the investment world became so nervous and so panic stricken by a eurozone/U.S. default that millions of investors, hedge funds and central banks began dumping cash for gold over a short period of time. A period of hyper-inflation could also bring this stampede on.
Would there be enough gold to go around?
What must be remembered is that there aren't enough gold resources above and below ground to let global asset allocation get to 5% anymore (as it was in the late 60's). Reaching this level of gold investment is an impossibility and will never happen. You can imagine now what a rush to purchase gold would do to its price if the investment world began bidding on gold as an insurance asset. It would not take long for the entire global supply (both produced gold and 'in the ground gold') to be purchased and locked away in a vault, leaving many bidders at the table. That is how bidding wars start and how prices go skyward. This is the fundamental principle behind all gold backers' belief and why it's being accumulated at record levels by central bankers around the world.
Our team believes we are still in the early stages of this gold rally and that its price will continue to break through to new highs in the months ahead. Viewing the markets over periods of months and years, as opposed to weeks and days, is critical if your patience is to be rewarded.
The United States and Europe cannot solve their debt problem overnight. As the months and years go by with these huge fiscal imbalances threatening us, the price of gold will remain high. This will result in profit margins never before seen in the gold sector. As the majors become unattainable for many to buy, reach PE ratios of 20 times and are sitting on billions in cash, it will be the juniors turn to go on a run. We like gold, gold producers and gold explorers with proven assets in the ground.
Remember that we are in a true super cycle for resources, precious metals and commodities. As central banks around the world continue to print dollars and inflate their currencies these assets will rise. The last thing anyone will want to be holding is cash.