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Gold Price to $3,000 as Dollar Fades

As the gold price continues its steady climb higher and the U.S. dollar remains immersed in a downtrend, it is worth considering the importance of these macro trends.  The headlines with respect to the ongoing depreciation of the U.S. dollar relative to the gold price and other global currencies have been recurring for a number of years.  However, in recent months the number of stories has increased as the dollar has made 52-week lows versus a number of currencies and as the gold price, measured in U.S. dollars, has climbed near all-time highs. 

What does the weak dollar really mean to an investor?   We often read about large, disturbing macro trends, yet rarely think about the micro implications.  What does it matter if the budget deficit is $800 billion, or 6.5% of GDP, versus the current estimate of $1.6 trillion, or 13% of GDP?  Admittedly, the ramifications over short intervals of time are difficult to discern.  This is one of the ways that policymakers sell programs such as stimulus checks or “cash for clunkers.”  These programs are all about political posturing and creating the appearance of forging a solution.  And while they deliver some semblance of short-term relief to a recession-battered public, crudely put, they are analogous to abetting drug addiction.  Give the addict a quick fix and he’s momentarily liberated from his torment and sickness.  The real solution, withholding the drug, requires a more painful short-term outcome but gives the addict a chance at recovery and renewal.

The innate desire to want short-term fixes is heightened by the ease with which the fixes are offered. Faced with brief, two-year congressional election cycles, politicians govern in order to keep their jobs, rather than to promote the long-term good of the people, however politically unpopular.  Hence it is nearly impossible for the hard, but correct policy route to be taken.  With respect to the declining dollar, the correct route is for consumers to pay down their debt and bolster their assets through savings, but the price of this is short-term pain.  Saving leads to lower retail sales, which leads to lower economic growth, which leads to higher short-term unemployment – the unavoidable consequence of taking the correct route to solve the public and private spending excesses of this decade.  Instead, policymakers are providing more incentives to consume, such as the “cash for clunkers” program, which compounds the declining dollar problem by driving both consumers and the federal government deeper into debt, even if consumers do save a few bucks on a new car.  The patient cannot be cured by the same ailment that made him sick in the first place.  Easy money is not the cure for a disease contracted by easy money.

With consumers burdened with debt and unable to muster more spending, the federal government has stepped in to fill the void.  Keynesian deficit spending is in full force.  But just as the creditworthiness of an individual declines as his balance sheet deteriorates, the same is true of sovereign governments.  Think of a nation’s currency as the barometer of that country’s fiscal health.  The persistent dollar depreciation we are witnessing is a vote of no-confidence on both America’s current financial health, and the outlook for its balance sheet going forward. 

This past week, World Bank President Robert Zoellick provoked controversy with his comments on the economic policies of the United States and the U.S. dollar.  Zoellick stated that the U.S. dollar is at risk of losing its role as the global reserve currency as both the euro and Chinese renminbi achieve greater prominence in global markets.  He questioned whether the United States would be able to resolve its debt problems without resorting to inflation.

The concern of Mr. Zoellick, shared by world leaders, is that in order to manage the debt load America is incurring through large and growing deficits, the Federal Reserve, in conjunction with the executive and legislative branches, must resort to inflating away its debt problems.  By making dollars cheaper, it becomes easier to pay off future debts.  This insidious, hidden tax on savers robs hard-working Americans. 

Ernest Hemingway famously penned that, “the first panacea for a mismanaged nation is inflation of the currency; the second is war.  Both bring a temporary prosperity; both bring a permanent ruin.” 

Inflation is a decline in the value of money caused by an increase in the money supply.  As the supply of paper money increases – without a commensurate increase in production – the excess demand manifested by a greater money supply causes the price of goods and services to rise.  More currency chasing fewer goods will eventually lead to price inflation.  If the money supply is growing faster than GDP then prices will necessarily move upward.  Business decisions become more difficult to make without stable money, hence investment often declines.  Inflation can distort the economy and can lead to hoarding out of concern that purchases must be made now because prices will be higher in the future.

The U.S. dollar has lost 89% of its purchasing power over the past 59 years.  The $10,000 life insurance policy held by the World War II veteran on his return home represented a significant amount of money in the 1940s.  Now, that policy would barely cover the cost of a burial plot and funeral for a war hero.  But the material decline in purchasing power is in no way a given, and the precedent for stable prices has a longer history than the era of inflation we have endured for three generations.  From 1800 to 1929, the value of the dollar was stable – there was essentially no change in consumer prices for 130 years.  It is ironic that the beginning of the inflation tidal wave started shortly after the creation of the Federal Reserve Bank in 1913, an entity designed to preserve price stability. 

The acceleration of money supply growth following the collapse of the technology boom – and the cheap money and liberal credit that sprang from it – created the housing bubble that is chiefly responsible for the magnitude of today’s frozen credit markets.  A similar misallocation of resources is occurring now and, as always, there will be consequences.  In spite of the deflationary headwinds emanating from excess capacity utilization and a low velocity of money, inflation is always and everywhere a monetary phenomenon, just as Milton Friedman penned many years ago.  Public sector deficit spending combined with a Federal Reserve that has implemented quantitative easing, or money-printing, alongside an unprecedented loose monetary policy will accelerate the decline in the purchasing power of the dollar.  Nearly $19 trillion in U.S. public funds were pledged to save the global financial system.  While a great deal of this total will be undrawn or repaid, a significant amount will not be.

Formerly, under gold-based monetary systems, inflation occurred when governments melted down or mixed other metals into the coinage, thereby diluting the gold content.  Goods and services would require a greater amount of coins as money was debased.  Inflation is a form of currency debasement.  But how can the individual investor protect herself against inflation?  One solution is to exchange inflation-sensitive assets like cash and bonds for hard assets like gold and real estate.   As inflation rises, the level of real interest rates decline.  Consequently, the opportunity cost of holding a sterile asset that pays no rate of interest declines.  Gold acts as a store of value in such an economic climate, and has the advantage of fungibility, portability and ease of conversion into cash that other hard assets like real estate lack.  Those analysts and market commentators who talk of a bubble in gold simply ignore the fact that its inflation-adjusted 1980 high is nearly $2,300 per ounce, a number 120% higher than the current gold price of just under $990 per ounce.

In such an environment of currency instability, the gold price and gold mining equities tend to preserve wealth.  Larry Summers, former Secretary of the Treasury and current Chief Economic Advisor to President Obama, and Robert Barsky wrote an academic paper in 1998 titled Gibson’s Paradox and the Gold Standard.  Their research led them to conclude that price action in the gold price is driven by the reciprocal of the real rate of return from the global capital markets.  Demand for gold and, accordingly, the gold price are dependent on what alternative rate of return is available in other asset classes.  A low-return environment in traditional asset classes such as equities and bonds will create increased demand for gold.  The relatively small size of the gold bullion market and the gold equity market, combined with the magnitude of potential demand, creates a situation wherein explosive price gains are a possibility.  Per Summers and Barsky’s research, the recent investment climate characterized by tepid long-term returns in stocks and  bonds, combined with the prospect of continued monetary inflation to combat the credit crisis, strengthens the case for increasing an investor’s exposure to the gold price and gold equities in spite of the risk associated with short-term oscillations.

Source: http://www.goldpriceblog.org

European Central Banks Sell 144 Tons in 5th Year

In their fifth year of the gold agreement, European Central banks have sold roughly 144 tons of gold.  The fifth year of the pact started on Sept. 27 2008 and runs until Sept. 26 this year.  The allowed sales maximum was 500 tons, a number obviously unmet at the current time.  According to the figures, the 15 signatories to the accord disposed of 497.2 tonnes of the 500-tons allowance during the first year, 395.8 tons in the second year, 475.8 tons in the third year and 358 tons in the fourth year.  The main reason for this drop-off is that the gold price has had significant gains in the past years.  Holding gold makes the most sense when the gold price is booming and a return is made on the gold investment.

A third pact, to run from Sept. 27 until Sept. 2014, was announced on Aug. 7, and will limit gold sales to 400 gold tons a year.  Central banks and the International Monetary Fund (IMF) collectively hold 29,697.1 tonnes of gold in their reserves, but have been gradually reducing their holdings.  In March 2004, fifteen European central banks renewed a 1999 pact to limit their sales over a five-year period to 2,500 gold tons, up from 2,000 gold tons in the first agreement, and with annual sales limited to 500 tonnes.  The signatories as of the most recent agreement are Austria, Belgium, Finland, France, Germany, Ireland, Italy, Luxembourg, Netherlands, Portugal, Spain, Sweden, Switzerland, Greece and the European Central Bank.  The world’s largest holder of gold as of June 2009 is the United States with 8,133.5 gold tons.  With an ever-increasing gold price, we can expect gold sales to be diminished by many countries.

Gold vs. Euro vs. Dollar

Many investors look at currencies as instruments for the economy.  So the question that we pose today is: Euro, U.S. dollar, or gold?  As one can guess, our pick is gold for very good reasons.  To begin, the Euro has many faults.  It is a very young currency that has no proven track record; gold has been around for centuries.  The Euro has underperformed compared to many other currencies in the recent past; the gold price has not.  In general, the EU is viewed as relatively ineffective and this certainly reflects on the currency of the government.  Europe’s banking system is in crisis and controls the Euro; no one controls gold as it is held across the world.

The dollar is also in a horrible position in this economic crisis.  The U.S. government has massive budget deficits and a huge amount of debt.  Legendary investor Buffett recently stated concern regarding the extraordinarily large deficit.  This is not a fear for the gold price as it has no sole owner/issuer.  The other main problem with the dollar is its focus and connection to the quantitative easing practices used by the Federal Reserve.  As of now, the relationship between gold and the dollar is linear; quite troubling for the dollar.  Also, the U.S. dollar is hosted by a country with jobless consumers; once again, the gold price does not rely on a single government or institutional body.  Since the dollar is backed by the U.S. government, all of the faults with the U.S. are passed on to the currency itself.

Overall, the dollar is definitely the weakest of the three.  The reason has to do with risk and the position of the U.S. government in the global economic crisis.  Many economists have quietly suggested that the U.S. will no longer set the standard by which the world lives by in terms of economic prosperity.  By no means will the dollar ever be replaced by gold, but it will be weak compared to gold.  The gold price will most likely gain as investors turn bullish (contrarian standpoint).  By all means, the outcome for the gold price appears to be quite strong. 

Source: www.goldpriceblog.org

Gold Stock Profile: Barrick Gold

As announced today, Barrick Gold Corp.’s North Mara mine in north-western Tanzania is expected to increase production by as much as 24 percent this year.   After producing 197,000 ounces at a total cash cost of $757 an ounce in 2008, the latest estimates put expected 2009 gold output at between 225,000 and 245,000 ounces of gold.  Much lower cash costs of $445 to $495 an ounce are also expected.  With a rising gold price, lower cash costs expands the company’s revenue base.

Barrick Gold maintains a wide portfolio of operating gold mines and projects located across five continents.  The company has three advanced development projects, which include Buzwagi in Tanzania, Cortez Hills in Nevada, and Pueblo Viejo in the Dominican Republic.  All together, these new mines are expected to contribute nearly two million ounces of average annual production at full capacity.  Barrick generated $2.2 billion of operating cash flow in 2008 and has $1.4 billion in cash. The company has 138.5 million ounces of gold reserves, 6.4 billion pounds of copper reserves, and 1.09 billion ounces of contained silver as of the end of 2008.  Barrick is the world’s largest gold producer.

Source: Bloomberg   GoldAlert

Gold Price Up Day After FOMC Meeting

The gold price rose to the highest point this week as the dollar declined, increasing the metal’s appeal as an alternative investment.  The silver price climbed to a two-month high, and platinum and palladium rose.   The dollar fell for a third day against a basket of six major currencies after a report showed U.S. retail sales unexpectedly fell last month, adding to concern that consumers are unwilling to increase spending.  The dollar slid as much as 0.9 percent against the euro after the German economy, Europe’s largest, unexpectedly expanded in the second quarter.  When the dollar falls, the gold price usually jumps.

Also, U.S. retail sales fell 0.1 percent in July, after gaining a revised 0.8 percent in June, the Commerce Department said in Washington.  The median forecast of seventy-six economists in a Bloomberg News survey was for an increase of 0.8 percent.  The Fed’s Open Market Committee extended by a month the scheduled end to its $300 billion purchase of U.S. Treasuries, or so-called quantitative easing, aiming for a “smooth transaction in markets.”  It left the target rate for overnight lending between zero and 0.25 percent.  Gold price “should remain supported by the inflationary impact of the Fed’s rate decision, in addition to the boost to general risk sentiment,” according to James Moore, an analyst at TheBullionDesk.com in London, said in a report.

Expectations for a weaker dollar over the next six months increased, according to 2,345 respondents from New York to London and Tokyo in the Bloomberg Professional Global Confidence Index.  One the whole, gold investment seems to be quite optimistic in the short-run and VERY optimistic in the long-run.

Sources: Bloomberg GoldAlert

Gold Stock Profile: Detour Gold

Detour Gold is one of the few gold producers that holds a gold resource above 10 million ounces and still has less than 60 million shares outstanding.  The company’s share price has appreciated 231% since its IPO in Jan 2007.  With a gold resource of 13.2 M gold ounces, the company has meaningful leverage to the gold price and only trades at about $40 per resource ounce.  Detour Gold’s wholly owned Detour Lake project has increased its resource base by 288% since acquisition.  The project is located in a region that has historically produced 180 million gold ounces.

Gold Price Begins Rise WIth Impending Fed Announcement

Gold price futures rose Tuesday for the first session in five, as the U.S. dollar slid at the outset of the Federal Reserve’s monetary-policy meeting, increasing the metal’s appeal as a hedge against a weaker currency.  Limiting gold price‘s gain, crude-oil prices fell below $70 a barrel, dampening the metal’s attractiveness as a hedge against potential inflation. Meanwhile, holdings in the biggest gold exchange-traded fund continued to slide, reaching a fresh three-month low.  December gold futures, the most active contract, rose 70 cents, or 0.1%, to $947.60 an ounce on the Comex division of the New York Mercantile Exchange. The front-month August contract, which registered very small volume, ended up 80 cents, or 0.1%, at $945.80 an ounce.  The gold price had fallen more than $20 in the previous four sessions, the longest losing streak since early March. The loss came after the front-month contract hit a two-month high near $970 an ounce last Wednesday.  Expectations are increasing that the Fed could tighten U.S. monetary policy sooner rather than later, a development that could boost the U.S. dollar, reduce inflation worries and pressure gold prices.

Sources: GoldAlert MarketWatch

Gold Price Down After Dollar Gains

After better-than-expected jobless reports, gold price futures ended lower in choppy trade Friday on the back of a dollar rally.  This was mainly due to optimistic U.S. jobs data, as the market digested news that a new central bank gold agreement reduced the maximum of total gold that could be sold.  The dollar rose sharply against the euro and was on track to post the biggest gain versus the yen in two months, dampening gold’s appeal as a hedge against the falling U.S. currency.  At the end of the day, the gold price finished at $955 and was almost down 1%.

Gold Price Keeps Gains

The gold price may have found a new level of support as it continues to hover around $960.    Yesterday, the gold price even touched $970 per gold ounce.  The gold price is definitely set to futher increase its gains.  Especially as the dollar has broken down technically (to below 78.0 on the US Dollar Index) and looks vulnerable to sharp falls in the coming weeks as US creditors grow wary of funding the ballooning US deficits.

Silver and platinum are also looking quite strong at the current time. The current spot silver price is $14.71 per ounce. A very good night of trading on the Shanghai Gold Exchange has seen a spike in demand for platinum and it is currently trading at $1,281/oz coming from a long period of support and resistance in the $1,100/$1,200/oz range. However, I remain the most confident in the gold price. Let’s see a rally that will break the $1000 threshold.