Peak Gold: Are We Running Out Of Gold Deposits?

Includes: GDX, GGGG, GLD, PHYS
by: Shaun Connell

Economic resources are scarce. Plenty of economists, authors, and investors take this to mean different things. As I've written before, some have incorrectly taken this to be proof that "peak oil" is going to happen.

Of course, the thing with oil is that there are plenty of alternatives that become more competitive when the price keeps rising. Natural gas, biofuels, electric vehicles - all of these become more attractive in an expensive oil world, leading to a downfall of oil's lofty price in the end.

But not all commodities are like this. Gold (NYSEARCA:GLD) is fundamentally different, and all of the peak projections about gold have a hint of truth in them. This is extremely important for people interested in mining stocks or the gold standard, because it changes everything.

Peak gold is real and it's inevitable. If you're investing in individual gold producers or an index like the Gold BUGS Index (HUI), it's important to understand what peak gold is and what it means.

When The World Runs Out Of Economically Recoverable Gold

The argument for peak gold is pretty simple. There's only so much gold, gold's value won't fall because of "alternatives" to gold springing up, and production has to hit a peak at some point as we run out of gold to produce.

In 2009, the CEO of Barrick Gold (NYSE:ABX) proclaimed that gold production had peaked in 2001. He said:

"Production peaked around 2000 and it has been in decline ever since, and we forecast that decline to continue. It is increasingly difficult to find ore."

Of course, he was embarrassed because, within 24 months, headlines were posted around the world letting us know that 2011 saw gold production break even 2001's record.

Figuring out when gold production will peak is fairly tricky. Many believed that gold production had peaked in 2001, but in 2011, gold production broke all previous records of 2,700 tons of gold.

Predicting when peak gold will occur is tricky, because the price creates new sources to be depleted. If the gold bull market dies away over the next decade, it could be literally decades before gold prices increase to the extent to break 2011 or 2012 production levels -- if ever.

Why Peak Oil and Peak Gold Are Fundamentally Different

Not everyone is a believer. Michael George, USGS gold specialist, argues against peak gold:

"'Peak gold' doesn't really work as a theory. There have been several historical "peaks" in gold production. There was a peak in U.S. gold prior to World War II in 1938 at 161 t. Production then dropped during the war because of a shift to wartime materials."

Unfortunately for Mr. George, this is ludicrous. Just because overall peak gold hasn't occurred yet doesn't mean it won't occur, unless he thinks gold is somehow manufactured by the Earth on a sustainable level.

Will This Impact Prices Over Time?

Kind of. If the demand per capita stays identical, yes, this means that the supply shortage going forward could have a slight upward impact on gold prices.

But gold prices aren't dictated by new supply as much as oil, because gold's market is filled with people sitting on gold. Gold isn't consumed - it's held. This means "new supply" has very little impact on the price of gold overall.

Overall, the impact to gold prices will be severely minimal, and there's no reason to bet a dime on gold because it's "running out." This is especially true because there's no telling when gold production will begin slowing for good.

What This Means For Investors

I've read several thoughts on the notion of whether this is good for investors. The two theories go like this:

  • Buy Mining Stocks. The argument is that peak gold means that prices will continue being pushed higher and higher and gold mining stocks will be a better bet. However, we know that the impact to gold prices will be minimal - at best - and probably won't change the course of gold prices much at all. Almost all other variables are more important.
  • Don't Buy Mining Stocks. Or, at least, don't use this as a reason to buy mining stocks. The notion is that as gold production runs down, it'll be more difficult for miners to make money because the price impact won't be as potent as the supply shortage the miners will directly experience. This means lower profits whenever it "happens."

This is actually one of many reasons I prefer to own physical bullion rather than mining stocks, because if peak gold has any noticeable impact to mining investors, it'll be a negative - whenever it happens. When I buy stocks, I also like the idea of being able to hold forever, something that peak gold threatens to make impossible for gold mining investors. Gold's demand and making money from miners going forward will be based on other demand sources, like fears of a dollar or euro collapse.

This does not mean you shouldn't own mining stocks. In fact, miners will probably have some huge upside in the short run as the gold bull market seems to be picking up again. But if you do own miners like Goldcorp (NYSE:GG) or Newmont (NYSE:NEM), it should be for other reasons than the notion of peak gold.

I realize that this isn't exactly the most snappy conclusion ever, but that's intentional - the data isn't snappy. Not all analysis needs to end with a powerful "buy this company now" conclusion, even if the analysis is important to understand for sector investors, which is one reason gold forecasts - or any forecasts - are typically so inaccurate.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I own physical gold, and buy more regularly.