Is the Gold Market Repeating Its 2006 Pattern?

The turbulence that has engulfed the market since last summer helped push gold above $1,000 per ounce – albeit briefly – in mid-March. And the investment-driven forces pushing demand were unsurprising: gold’s safe-haven status and the weak U.S. dollar. (This is also when Bear Stearns (BSC) collapsed.)

Howver, the past couple of weeks (before Wednesday's jump) have seen prices trend sideways as the Fed’s rate cutting cycling may be nearing an end, and support for the greenback could punish commodity prices. In fact, Tuesday’s better-than-expected U.S. producer price index for March appeared to catch the market off-guard sending bonds downward and the greenback higher.

Dennis Gartman, author of The Gartman Letter, said the numbers should be enough to keep the Fed on hold for a while. He thinks the idea of another round of “easier money” has not only be put to bed, but it has been “tucked in and given a sedative to put it fully to sleep.”

So while gold appears to be near the end of a six-month demand-driven cycle as investors carefully watch for the price points at which physical demand returns, seasonal factors are also playing a role. Gold is entering a period that typically shows both slower physical demand and fabrication demand for things like jewelry and electronics, according to Citigroup analyst John Hill.

He thinks new macro negatives are needed to rekindle investment demand for gold and says the current situation looks much like 2006. Early that year, when gold first breached the $600 per ounce mark, fabrication collapsed. Investment stalled and gold traded sideways until early that fall.

Retail investors in the west abandoned gold, as demonstrated by outflows in related ETFs. But players in Asia, India and the Middle East were happy to buy at bargain prices, which is one reason to remain bullish on gold for the long-term.

The analyst also makes some important points about gold itself. The first, is that the market for gold is relatively small compared to multi-trillion dollar assets classes like bond yields and exchange rates that bullion often gets quoted alongside of. The net value of investment in all forms of physical gold (bars, coins, ETFs and futures) was just $13.5-billion in 2007, while the value of mined and recycled gold was $76.6-billion, he noted.

Next, there are really only three motivated buyers of gold: the increasingly wealthy middle-class in India, Chinese buyers benefiting from liberalization, and investors from Russia and the Middle East with oil wealth. With demand growth for gold at 8.6% in India last year, 11.2% in the Middle East and more than 20% in China and Russia, along with continued economic and political pressure in the U.S., it doesn’t look like this will change anytime soon.

Comments

[boardroom_j...:]

The author is firmly committed to being ambivalent.

2008 Apr 17 07:32 AM

[NOWHEREMAN:]

pattern?...where's the chart? Without a chart, there is no pattern.

2008 Apr 17 08:51 AM