Adrian Ash's  Instablog

"GOLD feels frothy today," writes Société Générale analyst Dylan Grice in a detailed report, "but [last month's] Indian purchase of IMF Gold eerily parallels the French purchases of the late 1960s. And ill policy winds are blowing in gold's favor."

The gold price leapt in the professional market to yet another all-time Dollar high early in London on Wednesday, coming within 50¢ of $1150 an ounce as global stocks held flat on the MSCI World Index.

The price of gold in both Euros and Sterling also jumped once again too, hitting the best level since Feb. 25th and recording a London AM Gold Fix within 2.0% and 1.3% respectively of the all-time highs set one week earlier.

Can this dumb lump of metal get any livelier?

Well, claiming that "There is a case for gold being 'cheap' at current prices" thanks to what he calls the "market displacement" of huge monetary expansion worldwide, Grice believes the gold price has yet to undergo four further stages of a "Minskian mania" – boom, euphoria, crisis and finally revulsion.

Encouraged by India's decision, "We've had the displacement and are only now entering into the boom phase," says SocGen's behavioral analyst, who replaced James Montier at the French bank's London strategy team in Sept.

"The mania phase lies well ahead. But that is a long way off."

Market historian, merchant banker and professional doomster Martin Hutchinson concurs in his much-respected and ever-excellent column at Prudent Bear this week, claiming that with gold decisively above $1000 an ounce, "The opportunity for the world's central banks to change policy and affect the economic outcome has been lost. The world economy is now locked on to an undeviating track towards another train wreck."

Hutchinson sees a repeat of 1978-1980 now unfolding, with the price of gold vaulting to perhaps $5000 an ounce by the end of next year.

"If expansionary monetary and fiscal policies are pursued regardless of market signals," says Hutchinson, "the US will head towards Weimar-style trillion-percent inflation...As I said, a train wreck. Probability of arrival: close to 100%. Time of arrival: around the end of 2010, or possibly a bit earlier. And at this stage, there's very little anyone can do about it; the definitive rise of gold above $1,000 marked the point of no return."

Even London's more reserved, typically cautious "commodity-gold" analysts – focused on the blunt numbers of demand and supply – are sounding awfully bullish on gold right now, with this month's Fortis Financial Gold & Hedging Report from the VM Group announcing "Central banks to the rescue as dehedging draws to a close...

"On average in the eight years since 2002, gold dehedging" – the reduction by gold mining companies of those forward sales they made when prices fell during the 1990s – "has meant an additional 374 tonnes of gold demand [per year]...more than South African gold production or US jewelry demand over the same period."

Now cut to barely 300 tonnes of outstanding forwards – and down by 90% from the peak of 2001 – the global hedge book of gold mining companies is as good as closed, says VM. That suggests the gold market has to find a new source of demand (or lose a source of supply) to remain stable.

But "Central banks are a key player in gold hedging," the consultancy goes on, "as their [lending] gold makes it possible. Hedging equals gold flowing out of central banks; dehedging equals gold flowing back in...similar to when central banks sell or purchase gold.

"Importantly, although dehedging is now declining, net central bank gold sales have fallen even faster. In fact 2009 is likely to see net central-bank purchases, meaning central banks continue to be net takers of gold off the market."

Noting India's official purchase of 200 tonnes of IMF gold in Oct. – plus news that the central banks of Sri Lanka and now Mauritius are adding to their gold reserves – "It is the sentiment that matters" and not the size, says VM analyst Gary Mead in the latest BNP Paribas Fortis Metals Monthly.

"The bottom line is that the gold price rally has got everything going for it right now: Few official sector sellers, some official sector buyers, a low-interest rate environment, and a weak US currency.

"It's a perfect storm," he says – at least for bullish analysts. Yet there's still no rush to physical gold, despite what CNBC is saying. It's not even a rush into the ETFs either, despite the top-flight institutional analysis now urging fund managers to take a position. The trust funds have barely added anything since March. Coin-dealing premia also remain subdued, way below the true mania levels of this time last year.

Instead, this current rush into gold remains all in the derivatives. Hence the importance of cheap money in Grice's analysis for SocGen. Speculators playing futures and options have never been so long as they've got during this 20% surge since Sept. 1st. And only gold as a leveraged, margined credit product – i.e. the opposite of what investors typically take it for – is driving this current phase of the nine-year bull run.

The trouble for would-be physical gold buyers, is what to do if the price doesn't "correct" as expected? Gold offered few "buying dips" during the six-month surge of 2007 and 2008, starting in Sept/Oct and running pretty much straight through to Feb/March. Lacking the cheap credit or balls to play gold on leverage, will more cautious investors chase it further after the leveraged hedgies have pushed it up? Or will they sit it out as talk (and evidence) of inflation & looming currency crisis grows?

All told here at BullionVault, we spy yet more mischief from cheap money. Because the cost of insuring against today's credit-excess is being inflated by precisely the zero rates and money-printing that gold might be hoped to protect you against.

If you think buying now feels a hard decision, in short, what would you think 50% or 100% higher from here....?

Full disclosure: Long physical gold

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Massed bagpipes, fine malts and a bullish outlook for London's professional gold dealers...

RHONA O'CONNELL did it on the train home, John Reade managed it before the conference finished, and Ross Norman's team were at it throughout.

No chance then of our being the first members to reflect on this week's LBMA Conference in Edinburgh. But BullionVault can at least relay a taste (minus the fine malts and bagpipes), and we might get to have the last word as well.

Because India's IMF gold news stole the headlines even before Tuesday's speeches began, and gold itself has since grabbed the limelight, hitting fresh all-time highs against the Dollar and Rupee (and Chinese Yuan, note).

Be sure to check both Rhona's comments at MineWeb and what FastMarkets say at TheBullionDesk. (John Reade's conclusions have yet to reach the LBMA website.) For us, three points stand out from the tenth annual conference of the London Bullion Market Association.

#1. Utterly Bullishly
Bears don't fill hotels, and Edinburgh was the first LBMA conference to pack the available space, drawing a long (and disappointed) waiting list too. More than 300 people attended the tenth but first such UK event, and it was no surprise to learn that four-in-ten delegates worked at either brokers or banks. Listening to the official speakers, however, it was a shocker to find the supply-demand view of gold – the commodity view – so fast in retreat.

Consumption destruction, mine output up 6%, a flood of Cash4Gold-inspired scrap...Roll on the Eeyores saying it could not last, or so we imagined. Plenty of speakers (and guests) did cite gold's "unsustainable imbalance", but only to dismiss what it might mean for near-term prices. Because 0% rates, yawning government debts, and the slow, ineluctable shift of Western power to gold-friendly Asia won't be beat.

Or as Irish and former UBS economist David McWilliams neatly put it, "The Chinese proletariat is seizing the means of production using worthless Dollars earned from the United States" – a fact so hard to ignore, it adds up to $1181 gold and $18.10 silver by November 2010, at least on Tuesday's average guess from the floor.

Amongst the opening day's speakers, Aram Shishmanian, CEO of the World Gold Council, was due to speak on "Issues Facing the Jewellery Industry". But he said straight off he wouldn't bother with that, switching instead to what's driving investment and safe-haven flows. Mehdi Barkhordar of Swiss refining group MKS then spoke on the surge in Gold Bar and coin demand, noting "a new Western mindset" more typically seen driving Eastern gold hoarding:

• Lack of trust in governments;
• Lack of trust in the local currency;
• Lack of trust in the financial system;
• Fear of inflation;
• Only trust physical gold.

The real "impact of the financial crisis" (as per Barkhordar's title) was in fact 2008's squeeze on vaulting space and refining capacity, plus new opportunities in small-bar and coin fabrication. Coming out of that crisis into whatever crisis awaits, "There is a fundamental shift in the dynamics of the gold market," concluded MKS's managing director.

"Gold has become mainstream...[but] less committed or innovative players will struggle."

#2. London Rules But Rocks
Innovation in gold products – and maintaining London's No.1 spot – was a hot, heated topic, much discussed away from the dias and breaking onto the stage in the last-but-one session.

To be sure, innovation would have a good way to go to beat Julius Bär's "legal engineering", building physically-backed funds and products (seems there's a difference) whilst also shorting the Dollar. This gives Swiss money "maximum participation in the price movement of the underlying" according to Bär's product engineer Stephan Mueller, an objective which caused much head-scratching (well, at least at the back...) and apparently took UBS's chief commodities strategist a couple of years to fathom as well.

"Once in gold, you're short all currency," said John Reade in his summing up, before explaining that, one day, he got it. "Our Swiss clients wanted to be long of gold priced in Dollars." Which still sounds like two trades at once to us. And why not buy gold and sell the Dow (367% gains in 10 years), or better still the Rupee (down vs. the metal in 26 of the last 38 years)...?

Over in the physical 400-ounce gold market, meantime, the Lehmans' crisis confirmed London's dominance of physical storage and professional trading according to pretty much everyone, with metal heading this way from Zurich according to MKS. James Steel of HSBC also noted London's odd but continued dominance of wholesale silver, picking up pretty much where Spain's Latin American empire collapsed and coming despite Britain having no silver mining, refining or sizeable consumption.

London's reign is set to persist, Steel said, thanks to the infrastructure (vaults, assaying and dealing) which that very dominance built. And on the subject of silver, industrial bulls must check the speech from the VM Group's Jessica Cross...

Back in London meantime, the Bank of England now stores some 400,000 gold bars in its vaults, said foreign exchange director Michael Cross, worth $100 billion. That would mean some 2850 tonnes – second only to the US and Germany's hoards, but with well over 90% in custody (and sub-custody) accounts, rather than held as the UK's own official reserves.

So far, so good – if not complacent. The conference wasn't quite so at ease with deciding how to maintain London's lead in precious metals worldwide. And seeing how the Association is only that (albeit applying strict membership and code of practice rules), bringing the various member firms together to agree a global strategy would seem a big ask. The Good Delivery list sets the standard for new exchanges and products worldwide, which given the challenge ahead (from new localized products in local currency terms, as Julius Bär's Mueller observed) might prove good enough. Word is, however, that the issue of cleared forwards will be addressed – if not resolved – in the very near future.

#3. Central Banks Now Buying Gold
Okay, so it's hardly news after Tuesday's IMF announcement, and the GFMS consultancy (which is only slightly less cautious than central banks) said as much in April:

Central banks would likely be "net buyers" this year, with purchases outweighing sales. So what? Well, hearing that same forecast – or something very much like it – from a senior manager of the European Central Bank, thats what.

The first central banker to address the London Bullion Market Association since Philipp Hildebrand of the Swiss National Bank spoke in Montreux in June 2006, the ECB's principal advisor in market operations didn't bring down the roof. "I wouldn't be taking a huge risk to imagine that official holdings of gold [globally] will stabilize or increase," Paul Mercier said, adding that "I must stress that gold is still a vital asset for Europe's central banks."

But while that's no news to money historians, it's in fact a powerful statement from a central bank official – with or without advance knowledge of India's impending 200-tonne purchase. And reviewing my notes on the plane home, you might think Paul Tudor Jones, David Einhorn or even Jim Rogers had put Mercier's speech together.

"Why do we have gold?" he asked, before citing economic security, the capacity to deal with unexpected events, adding confidence to paper currencies, and risk diversification. Pretty much the same advantages were named by a French central bank at the start of this decade...and France then went on to sell gold from its vaults, cutting its holdings by one-sixth to 2,500 tonnes. But Hervé Hannoun spoke after gold had been falling for almost two decades. Whereas Paul Mercier spoke this week after 10 years of gold beating everything else – a period, as he noted, which also saw "the largest-ever reduction in official holdings, a reduction of 3,700 tonnes."

Take it as the ultimate contrarian "sell" if you wish. But given what everyone I spoke to thinks is the fate of the Dollar (let alone Sterling...or Euros), M.Mercier's carefully-phrased forecast looks a safe bet.

And as for Asia's growing private demand...

BullionVault has noted before that China's Household Demand for Gold has doubled as a percentage of its ever-growing annual savings over the last 10 years. In full-year 2008, basis World Bank estimates and GFMS data, gold swelled to equal 1.8% of saved household incomes.

But looking at Phillip Klapwijk's chart above, as John Reade suggested in his summing up, there's plenty of scope for further growth yet. China's gold demand has lagged behind the platinum-group metals – which are more in line with its share of global demand for base metals and concrete.

So China's private market is hardly deluged with gold at this stage. And that's with or without the People's Bank nabbing part II of those IMF sales.

Disclosure: Long physical gold

The little-known state of the gold market right now...

YOU WON'T read this in the financial pages, nor elsewhere online. But this autumn's gold rush has in fact has been no such thing to date.

No one's actually Buying Gold right now. Not the physical metal (and not the exchange-traded trusts either), not at anything like the rate they were buying a year or six months ago. Instead, this rush differs in kind from the surge of autumn '07 or the panic of late '08. Because it's a rush almost solely in leverage.

Hedge funds and prop desks have been buying Gold Futures and options with virtually free finance. Hence the surge in stocks, bonds and commodities too, of course. Because anything traded on margin looks a safe bet when finance costs you 1% or less per year. And especially when your major funding currency – the long mighty but now tired and emotional Dollar – is universally condemned to fall further.

John Hathaway of Tocqueville Asset Management called a similar rush into gold a case of mistaken identity back in late 2006. "Perhaps hundreds of billions of new institutional money has flowed into the commodity sector," he wrote. "Gold was caught in the cross fire..."

Here in late 2009, however, the institutional money is borrowed, not cash, and the prime brokers (formerly known as investment banks) are doing the lending with government-guaranteed finance. Since end-August, open interest in Comex gold contracts has swollen by more than one third...the fastest jump since late 2007, back when the Fed began slashing rates, oil vaulted towards $150 per barrel, and the run on the banks really got started.

And whatever you think about gold-industry players wantonly shorting the market, no one forces speculative funds to take the other side of those trades. Given the jump in prices – up 11% since the start of Sept. – you can see who's making the running.

Now we've got zero per cent rates and outright money printing by the big four central banks (a.k.a. "quantitative" and "credit" easing at the Fed, Bank of Japan, ECB and Bank of England). But private investors don't feel the same fear as when their bank accounts threatened to vanish – and their retirement savings dumped half their value – this time last year.

Yes, the doctors and dentists are in ("Fill 'em...drill 'em" as an options broker once put it to me), but it's the large speculators – meaning hedge funds and money managers – who are sitting on a record net long position, holding well over nine bullish bets for every short contract they've got.

New routes to cost-effective gold ownership continue to grow (well, they do here at BullionVault, with our users adding 38% to their stock of physical gold so far this year. Client property doubled over the first nine months of '08.) But overall, retail investment in physical metal has weakened sharply from the record demand of Sept. last year to March 2009.

London's GFMS consultancy says investment off-take from the physical market fell by two-thirds in the second quarter from Q1, and everything points to a further sharp drop in Q3. Coin-dealer mark ups on bullion pieces have fallen in half on average, back to 5% above spot from the genuine "gold rush" of this time last year. No one's saying they're sold out today. Big-name dealers were offering 3-week delays and worse in Oct. '08. The best that promoters can say now is "Plenty of stock available..."

Collectible coins face the same hesitation. "Normally aggressive buyers were guarded in their buying," reports Numismaster's Harry Miller from last week's CoinFest convention. "While not stating it openly, I think many feel the premiums on numismatic issues are outdone at current levels, and bullion itself needs a rest."

Amongst the exchange-traded trust funds, the same story – no matter what the minor trusts might have you believe in their PR campaigns. The huge SPDR gold trust, now holding more gold than all but the top five central bank hoards worldwide, swelled 60% in the six months to end-March. It's added barely 8% since. London's incumbent leader, GBS, has shrunk from its April peak. Overall, the total ETF positions that the World Gold Council tracks added barely 2.2% between July and end-Sept.

"Thing is," as a professional wholesale dealer here in London's bullion market told me today, "the ETFs still don't show any signs of shrinking when the price takes a dip. They're as sticky as ever. But no, overall, physical flows at the moment are nowhere as strong as they were. The action's very much in the futures."

Conclusions? For the fees we charge at BullionVault? That would be asking too much! But until a larger number of savers spots the trouble in 0% rates and central-bank money creation, it's big speculators using borrowed money who look set to keep making the running in prices.

Disclosure: Long physical gold

Two charts and three measures of gold's "real" price today...

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CONFERENCE SEASON is hotting up fast as fall arrives for the gold industry, bringing the typical raft of forecasts, predictions, outrageous price targets and deep...if less ball-breaking...analysis.

What might the World Gold Conference in South Africa say about the former world No.1's collapsing output, down by one-half in 10 years? Will the China Gold Summit spot that private households are putting twice as much of their ever-growing savings into gold as a decade ago? Will the London Bullion Market Association even bother to note the idiot claims about "Hong Kong pulling all its physical gold holdings from depositories in London" (yes, both tonnes of it...Gasp!) at this November's Edinburgh conference...?

On one side of the trade, meantime – and ahead of the big US, Canadian and Australian mining conferences this autumn – gold season kicked off quietly in Vicenza, Italy this weekend. Footfall is up at the "Choice" jewelry exhibition, apparently, but it will need to be. Global gold jewelry demand has sunk as prices hit record highs in all currencies over the last 12 months – up by one-third on average, in fact, against the world's top 12 currencies by issuing economy.

To date, the Italian jewelry industry – world No.2 behind India – could only spy "some weak signals of recovery in foreign demand," according to Dino Menarin, president of the Vicenza Fair on Sunday.

For mining analysts and bosses, in contrast, "We are now into the ninth year of the current bull market in gold," noted head of the CPM commodities research group Jeffrey Christian speaking at the annual Gold Forum in Denver, Colorado on Monday.

"We have had more investors buying more gold for a longer period of time than ever before. They probably will continue to buy even if the economy stabilizes" – but investors will need to keep buying gold according to CPM's competitor GFMS. Current prices need investors to buy 60-70% of world mine production reckons Paul Walker of the London-based analysts – also speaking in Denver – thanks to the global drop in jewelry and industrial demand.

"Is that sustainable indefinitely?" Walker asked. "I don't know."

GFMS's latest updates to its Gold Survey 2009 – launched here in London on Monday – predict a 19% drop in world jewelry demand this year. Overall gold investment demand is set to show growth of 478%.

"I think the downside in gold is limited to 5-10%," said GFMS chairman Philip Klapwijk in Q&A following his presentation. "Whereas we could see other commodities dropping perhaps 30% on a setback."

Noting the huge jump in gold derivatives bets of the last 3 weeks, "Speculators are rebuilding their positions" after the dramatic halving of open interest in 2008. "That's not to say we can't see a correction from current 'frothy' levels...but [that would] set us up for renewed gains to new record prices."

Looking at scrap-metal supply – spurred by record-high prices across India and south-east Asia, as well as new gold buying operations such as Cash4Gold in the West – the "supply shock" of early 2009 has not yet returned despite higher Dollar gold prices, Klapwijk reported, while central banks are now "net purchasers" after acting as "heavy, price-insensitive sellers" every year since 1989.

Jeffrey Christian of CPM Group told the Denver Gold Forum on Monday that central-bank demand will now equal 185-310 tonnes of gold per year – and "that is an extremely conservative projection."

But "We must be aware that the bull market will not last forever," Klapwijk said in concluding Monday's GFMS presentation here in London, highlighting "two warning shots" in the consultancy's long-term global analysis.

First, annual net demand – meaning all gold-product fabrication minus old-scrap supply – has been lagging annual mining output since 2001, creating a surplus this year of some 1,500 tonnes.

Second, and after annual jewelry fabrication first turned lower in 1997, the volume of physical gold investment is now close to overtaking it.

For the time being, however, GFMS believes sheer "weight of money" makes a strong "case for gold", firstly because global allocations as a proportion of portfolios remain low (as BullionVault argues here and here); real interest rates after accounting for inflation are low to negative, making the on-going costs of gold storage less onerous; and fears over inflation and the fate of the US Dollar "will only grow" over the coming six months or more.

"Anybody that's long a lot of US Dollars – China being one, maybe the Middle East – they're going to go: 'This thing is going downhill fast'," forecast gold mining entrepreneur Rob McEwen, former chief of GoldCorp and current CEO of both US Gold and Minera Andes Inc., at the Denver Gold Forum yesterday.

"[They're going to think] 'We have to get out of it and we're going to buy assets'."

Ending his presentation with a lottery to win a mock $1 trillion bill, reports Dorothy Kirsch at MineWeb today, McEwen named a gold price of $5,000 an ounce by 2015.

That's certainly one way to stand out from the crush at this year's gold conferences!

 

MUCH WAS MADE of the fact China overtook South Africa as the world's No.1 gold-mining producer in 2008. But that came due to South African output halving from its late-90s' peak.

More still was made of the surge reported this spring in China's official gold reserves, up 75% by weight in six years to 1,054 tonnes. Worth $32 billion, however, that lump of metal badly lagged growth in the People's Bank's total reserves. Thanks to Asia's "savings glut" – obverse of the West's "galloping consumption" – the PBoC's hoard of foreign currencies swelled by more than 300% to over $1.7 trillion.

More critically still, official Chinese gold holdings actually lagged jewelry and investment buying by private Chinese consumers...now totaling $42bn since 1998. And the real news, for Western analysts at least, is that as a proportion of China's massive household savings, gold buying has also risen sharply – up from a little over 1% to more than 1.8% in 2008.

According to World Bank estimates, annual household savings in China have risen three times over in the last 10 years. That's a four-fold rise in US Dollar terms.

Annual private gold buying meantime doubled in tonnage (according to data from incumbent analysts GFMS Ltd in London; mainland China figures), rising five-fold in Chinese Yuan and rising six times over in US-Dollar terms. So as a percentage of annual household savings, according to new analysis by us here at BullionVault, private gold purchases rose sharply...hitting more than 18 Yuan in every CNY1,000 squirreled away last year...and defying Western-analyst forecasts for "consumer substitution" as disposable income and thus savings grew.

Put another way, growth in the value of private gold purchases has consistently outstripped China's GDP growth every year since 2001, when retail-price controls were abolished. Come the first-half of 2009, private gold buying in China overtook India to become the world's No.1 market. It grew 8.1% in tonnage from the same period in 2008, rose 6.4% in Yuan value, and grew more than 8% in Dollar terms.

China's galloping gold buying wasn't merely a function of the global turnaround in gold's fortunes at the start of this decade, either. As a proportion of all retail buying worldwide (covering what GFMS separates into "jewelry" and "retail investment", although we're not sure the motives are so distinct), Chinese demand more than doubled from 7.5% in 2004 to almost 16% in 2008. It reached 31% between Jan. and end-June this year.

To recap: The world's No.1 gold producer, China stands at No.5 for official reserves and No.1 in private buying. If you're buying China, you'd better buy gold as well.

Disclosure: Long physical bullion...