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 While it took the gold price two
years to increase from $ 400 (December 1, 2003) to $ 500 per ounce (December
2, 2005, it took just four months and one month to pass the $ 600 and $ 700
barrier respectively, recording a new high of $ 725,75 at May 12.
It should be evident that this price explosion had
nothing to do with an unexpected change in fundamentals, but has been part of
the overall speculative hype on metal markets, including record prices for
copper, zinc and nickel. Gold certainly didn't run its own course, as has
been demonstrated by a relative strong price correction to a current level of
$ 650 per ounce.
The World
Gold Council (www.gold.org) reported in its recently
published update on supply and demand statistics with data for the first quarter of 2006 that
sustained interest from different groups of institutional investors drove the
gold price to new highs However, according to figures completed by GFMS (www.gfms.co.uk),
the world's premier research institute on gold, total demand for gold at 835 tonnes was 16% lower than in the first quarter of 2005,
primarily as a result a significant fall in jewellery
demand particularly in Asia
and the Middle East,
This is according to my prediction in Goldletter's
April-issue, when I pointed at the price sensitivity on demand as a result of
increasing gold prices.
Gold jewellery demand,
accounting for 52% of total demand, fell 22% (175 tonnes)
to 531.4 tonnes from 706.8 tonnes
in the first quarter of 2005, compared to 109 tonnes
flowed into Exchange Traded Funds (ETF's). Although
this was the largest quarterly increase in investment since the World Gold
Council backed street TRACKS Gold Shares listed on the New York Stock
Exchange at the end of 2004, also according to my expectations this demand
was not strong enough to compensate fully for the decline in jewellery demand.
With the gold price having increased strongly, apart
from an increase of 28 tonnes of mine production,
supply from old scrap increased 104 tonnes in the
first quarter compared to the same period in 2005, but official sector sales
decreased by 152 tonnes.
On the demand side against the strong decrease of
171 tonnes in jewellery
demand, and a decrease of 44 tonnes in bar &
coin retail investment, offset partly by ETF's
& similar, while net producer dehedging
increased 138 tonnes to keep total supply and
demand in balance.
While already having pointed at the growing pressure
of price sensibility on demand since the gold price has passed the $ 500
since early December 2005, it should be clear that at today's prices of $ 650
per ounce the price sensitivity will prevent the gold price to pass the $ 700
barrier once again in the near future.
That means that opportunistic gold market views have
to bring other arguments on the table to justify predicting gold prices of $
1,000 plus. Having been a speaker at the recently held "Gold
Investing" Conference in Geneva, I got
the answer when invited gold experts from North America
stated that gold is money and, in connection with a further decline of the
dollar, the only safe haven.
However, like with the fundamentals on supply and
demand, this argument is in conflict with reality. First, since the end of
2003 the dollar has not declined further at all against major currencies, the
euro and yen. Actually, the dollar rallied strongly
in 2005 from $ 1.35 at the end of 2004 to $ 1.18 at the end of 2005, before
it showed a correction this year and is traded at the same level of the end
of 2003 now.
Second, gold's monetary role declines since the
reserves held in gold by the major 11 central bank holdings, declined from
84% in 1950 to 15% in 2005. While the value of gold reserves increased from $
29 billion to $ 197.7 billion over this period, the value of non-gold
reserves skyrocketed from $ 5.6 billion to $ 1,139 billion as a result of
which the percentage of monetary reserves held in gold decreased from 84% in
1950 to 15% in 2005.
In the meantime, US dollar exchange reserves by
major Asian countries increased to $ 2,204 billion, with gold only presenting
1.49% of total exchange reserves. Because particularly China
showing the strongest growing exchange reserve in dollars, and exceeding $
900 billion this year, did not buy gold at $ 400, $ 500 and $ 600, it is hard
to believe that China's
Central Bank will buy gold at today's prices.
In this respect, it is widely neglected that the
Chinese yuan in fact is part of the dollar block as
long as the appreciation of the yuan against the
dollar is limited despite the yuan being strongly
overvalued against the dollar, as is demonstrated by China's trade balance surplus with the US of $ 200
billion on an annual basis. China
will not allow the dollar to fall however, in order to protect its economic
growth, in return of which it will keep financing the dollar deficits. There
might be a change in policy however, whereby China will shift from buying
treasury bonds to buying hard assets, in which case the trade imbalance will
decrease.
The good news is that the strong gold price increase
of more than 50% from $ 400 to above $ 600 has a positive impact on the
valuation of gold reserves, as gold majors have valued their reserves at an
average of $ 400. At the same time, the financial position of majors has
dramatically improved with strongly growing cash flows in 2006, provided that
the gold price will not drop under $ 600.
In mining, many projects which were not economically
viable at gold prices below $ 400 are now being reactivated and will have a
positive impact on gold production in the next few years, enhanced by a
growing number of mid-tier producers.
Within this scenario it is intriguing to watch that
the overall price performance of gold shares has stayed well behind the boom
in the bullion price, thereby offering many attractive investment
opportunities
By :
Marino G. Pieterse
Editor, Gold Letter
International
Marino G. Pieterse
has been an independent financial analyst and gold specialist for more than
25 years. He is the chief-editor of Goldletter
International, the only gold investment market letter in English in Europe focusing on emerging gold regions in the world,
as well as reports on individually featured companies and special reports on
other metals, including uranium. You can receive Gold Letter
International’s reports for free by clicking on the “Subscribe”
button.
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