Is The Tide Turning At Last For Gold And For Gold Stocks?

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Includes: ABX, GG, NEM
by: Lawrence Williams

Summary

Investor sentiment towards gold looks as if it may be changing for the positive.

Investment in gold bullion would see smaller percentage gains than in major gold stocks.

Gold majors are safer investments than juniors and mid tiers although gains in the latter could be spectacular should the gold price recover.

It is probably far too early to tell whether the recent rebound in the gold price is yet leading to a change in sentiment veering towards the positive for the yellow metal. However there are other factors at play which suggest that something of a turnaround is in the air.

Firstly, the recent price improvement has taken place despite almost universal media and analytical pessimism on gold's future path. Bank analysts in particular appear to have been falling over each other to predict dire things ahead for the metal price and for gold stocks and the media, unsurprisingly, has taken its stance on gold from the so-called experts in the field. Yet these are the same experts who only two to three years ago were predicting that gold would head towards the $2,000 level so they certainly do not have an exemplary track record. They follow the herd and their analyses are thus invariably reactive rather than proactive and based on price performance in the prior weeks so they won't be caught out short term. When prices move against mainstream analytical predictions this can be a strong indicator of the beginnings of an underlying change in sentiment from the investment sector.

Again, in spite of media assertions to the contrary, gold demand in China and India appears to have been running at an extremely high level for the time of year. And it is on Chinese and Indian demand in particular that the future of global gold consumption will almost certainly be dependent. Whether this is a true representation of actual Chinese demand or not (depending on whose views one takes) Shanghai Gold Exchange (SGE) gold withdrawals have to be at least a hugely important indicator of the path of real demand within the world's largest gold consuming nation. And so far this year SGE withdrawals have been running at record levels. SGE withdrawals through the Summer months in particular have been well in advance of levels seen even in the record 2013 year for Chinese gold demand. Up until the week ending August 7th they have totaled 1,520 tonnes - fully 135 tonnes higher than at the same time in 2013 when the total annual figure hit the record 2,186 tonnes. This year's amount to date suggests a full annual figure of as much as perhaps 2,500 tonnes - or around 75% of likely new mined gold output.

Indian demand too has been picking up strongly and it is widely predicted now that the country's gold imports this year will exceed 1,000 tonnes for the first time since 2011 - a record year for Indian consumption. Figures so far have been a little volatile month on month, partly through imports falling off ahead of the Indian budget, presented to Parliament on February 28th, in the expectation (not fulfilled) that the current seemingly more gold-friendly Modi government would cut the10% gold import duty imposed to try and help cut the country's Current Account Deficit - gold being such a huge part of this. While there has been some easing of some import restrictions on gold, the 10% import duty has remained. Pre-budget imports dropped, but surged again once the outcome was known, but probably not as much as they would have done if the import duties had been cut.

The most recent sharp downturn in the gold price, which knocked it back to around the $1,080 level briefly resulted from a hugely obvious 'bear raid' with big amounts of both paper and physical gold dumped on the COMEX and Shanghai markets late on a Sunday night/early Monday morning when activity would have been at its lowest. There was a fairly rapid partial recovery despite apparent further bear raids and the market now seems to have settled somewhat but at levels well above the $1,100 psychological mark.

But what the bear raids appeared to have done also, due to an apparent surge in physical demand at the lower price levels, was to deplete Registered COMEX gold stocks to an uncomfortably low level. Indeed so much so that JP Morgan, in what some have described as a COMEX rescue to avoid default on gold contracts, reclassified some 276,000 ounces of gold in its warehouses from the Eligible to the Registered category to make it deliverable on COMEX.

There have also now been reports (including on Seeking Alpha - see:'The 'Big Long' Gets Bigger As Goldman And HSBC Gobble Up Tons More Gold) that several of the bullion banks (Goldman Sachs, HSBC and maybe others) have very recently been buying gold for their own accounts. Now why would they be doing this if they were still anticipating that the gold price would continue to fall?

Much of the argument for a continuing fall in the gold price has been based on the prospect of the U.S. Fed raising interest rates - but has this been overdone? I published a recent article here pointing out that this should have been fully discounted given the number of gold price stepdowns after successive FOMC meeting deliberations on the timing of such a rise - see Has Gold Seriously Over-Reacted to the Expectations of a U.S. Rate Hike?.

Now while none of these arguments on their own would necessarily suggest a change in direction for the gold price, the combination -coupled with what many have seen as a surprisingly rapid recovery from the big gold bear raid - may well be coming together to change investor sentiment, particularly given a little more nervousness developing with regard to a possible end to the recent bull market in stocks in general. Gold could be returning to be viewed as something of a safe haven again as it has been since time immemorial.

But what of gold stocks themselves? Here it is all a question of leverage. If the gold price does begin to pick up, any percentage gains in gold itself will be limited, but for gold stocks this would be far more significant. While junior and mid-tier gold stocks might be the biggest beneficiaries in percentage terms, they are also the most risky, so the safer approach would probably be to invest in major gold producers like Barrick Gold (NYSE:ABX), Newmont (NYSE:NEM) and Goldcorp (NYSE:GG) where the likelihood of a total meltdown should gold start to fall again is pretty well infinitesmal, which it might not be with less well capitalized stocks. Moving down the line one would have to be far more careful in one's due diligence. Yes there will be junior and mid-tier gold stocks which will remain relatively safe in terms of survival should things continue to go wrong for gold, but they are also far more vulnerable to the percentage sizes of price falls under such circumstances. On the other hand, of course, they could see spectacular increases in price should gold see a sustained recovery as they did post the 2008 meltdown. Its all a question of the degree of risk one is prepared to take.

Disclosure: I/we 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.