Gold and inflation call it quits - Film at eleven

By Jon Nadler
After having once again failed at the $1,696 resistance level on Wednesday, gold prices headed lower for a third straight session this morning. In the process, the pivotal 200-day moving average price near the $1,608 level was breached by sellers. Spot gold prices hit an intra-day low of $1,655 per ounce earlier this morning. Silver fell to a low of $31.08 and was last seen trading at $31.30 after a small bounce, but it was still under previous support at $31.50 the ounce.

The principal downward price-moving factors that were identified this week were pretty much of the same flavor as we’ve seen before: improving US economic statistics, and a short-term resolution to the US debt ceiling debacle. On the former front, the markets were treated to numbers that showed a) the lowest level of initial jobless claims filings in five years, and b) the flash manufacturing purchasing managers’ best index reading since March of 2011.

The latest explanation as to why gold once again disappointed today was the one that saw a rise in German business confidence as eroding gold’s safe-haven appeal. Bloomberg News quoted veteran trader Frank Lesh as saying that “The economic conditions are looking up, so people are rethinking about their investments in gold. Equities seem more remunerative than gold at the moment.” It was also reported earlier in the week that US leading economic indicators rose in December at the best clip since the third quarter. A rebound in US real estate and related consumer purchases were behind the metrics.

Midweek wave analysis updates by EW indicated that gold had failed to confirm silver’s rally up to that point and that if prices were to break under the $1,665 support, then lower targets could come into play. As for silver, the EW team opined that with prices having closed higher for eight sessions in a row up to Wednesday, the white metal was (over)due for a decline.

This (still) being January, the string of 2103 gold price forecasts keeps getting longer by the day. Reuters News ran its own survey of speculative market views and came up with several interesting findings the other day. First, the possibility that gold could reach a record high annual average price was floated, based on the tally provided by 37 gold market analysts’ projections.

However, the Reuters 2013 price forecasting survey also noted that gold’s twelve year bull run could be reaching “a plateau” as annual gains become smaller and as expectations that the US central bank’s monetary policies are about to shift, gain traction. On the other hand, the Reuters survey noted that the group of analysts felt that “palladium is expected to set a record average high this year and platinum to post its best price performance in two years as South Africa's supply problems worsen and the economic cycle starts to favour industrial metals.”

Sharps Pixley CEO Ross Norman cautioned that his firm’s “view for gold in 2013 is that unfortunately it will rather look like 2012 with periods of consolidation that will test the patience of the gold bugs and investors.” Such a “leveling off” in gold’s performance may impact some hitherto ardent gold-holding fund managers’ reports to their investors. David Einhorn’s Greenlight Capital was among the first to report just such a paradigm shift.

The hedge fund fell by 4.9% in QIV of 2012 and Mr. Einhorn had to acknowledge that his fund “took some lumps as gold declined, the euro strengthened, credit spreads tightened and European sovereign debt rallied.” Lumps aside, Mr. Einhorn remains bullish on the yellow metal still. Bankers HSBC, on the other hand, not so much. Read on:

Yesterday, the global banking giant (also the custodian for the bulk of GLD bullion) halved the gold allocation in its strategic and tactical portfolios citing an aim to reduce volatility. The new gold weightings in the aforementioned portfolios will now be at 7%. HSBC noted that the correlation between gold and US inflation has broken down somewhat over the past year. At this point, the bank and global gold trader believes that TIPS are a better inflation-hedging tool than gold might be. HSBC also gave a favorable nod to equities in its asset-weighting reshuffle.

However, that which HSBC said about certain other attributes that gold is supposed to have exhibited over the past year or more will surely come to be labeled as “heresy” in certain gold-oriented forums: the bank stated that “it no longer views gold as a "sound investment" should the global economy fall back into recession, as this would not now be driven by a major systematic event such as a sovereign default.”

Moreover, HSBC also cautioned that-in a recession scenario-the price of gold could fall to $1,600 an ounce rather than rise to $2,200 as was previously forecast. The bank said that “This change means that we now expect gold to return -3.6 percent in a recession rather than the 32 percent that we forecast back in September.” How’s that for a change of heart on the matter of where gold could be headed? Why it is probably good enough for the same forums and blogs to declare that the “evidence” is in as to HSBC’s being part of the anti-gold (yet still invisible) gold “cabal.” Yeah, right.

Mind you, HSBC was not the only institution to issue a 2013 gold performance projection this week. French bank Societe Generale released an investor note on Monday that allows for the possibility that the current year could be the first one since 2000 in which gold ends with a negative performance. SocGen cited three bearish reasons for such a possibility: 1) Equities are –relative to gold-at their lowest level in twenty years, 2) the US dollar could gain ground as the American economy recovers, and 3) inflation is still contained.

As the SocGen’s analysis pointed out, “gold demand fell by 11 percent in the third quarter of last year compared with the same quarter of 2011, mainly because of moderate consumption in the world’s two biggest consumers of gold, China and India. This is not to say that there were no potentially bullish factors cited in the SocGen release. It’s just that-upon closer analysis-even those factors present some problems in terms of odds of materializing. Let us take a look:

SocGen opined that “1) “currency wars” and renewed monetary easing could push gold higher; 2) demand from emerging countries may increase; 3) in the long run, gold may play a role in the transition to an international currency reserve system.” How do these positives stack up, at this juncture? Not too well, actually.

First, let’s take issue –as someone else has- with the idea that we are in the midst or on the eve of some “currency wars” that will reshape the world as we know it. Despite the ominous language coming from Bundesbank President Jens Weidemann on Monday, the reality is that central bank independence was lost during the most recent financial crisis. They are all in the same boat, folks, and they cannot afford unilateral moves that might come to affect everyone else. So, don’t worry about that ‘war.’ It is as likely as WWIII at this juncture.

Moreover, the apocalyptic currency market visions of Messrs. Rickards, Faber, Schiff, Celente, etc. are not on target either. In fact, IMF Chief Economist Olivier Blanchard flat-out warned that “talk of a global currency war [following the BoJ anti-deflation move] is inappropriate. This increasing talk of currency wars is very much overblown.” Mr. Blanchard noted that there has been no massive inflow of capital into emerging nations. He acknowledged that countries such as Japan “have to take the right measures to get their economies back to health” but that such does not imply that there is a fatal race to the bottom or a currency war underway.

The second potential bullish item in the SocGen release relates to gold demand from emerging countries. Once again, that is a problematic factor to be sure. Take India and China, for example. The IMF this week scaled back growth expectations on a global scale. With regard to India, the IMF believes that the country’s economy might expand at the 5.9% rate this year. Compare that to the 7.9% rate of growth we saw from India back in 2011. In order to buy gold, one needs spare cash. Spare cash in a relatively anemic (historically speaking) economic environment? Hmmm.

The IMF sees China’s economy expanding at the 7.8% rate this year. Back in 2011 China grew at a 9.3% annualized clip. Said the IMF: “Growth is not projected to rebound to the high rates recorded in 2010–2011. Weakness in advanced economies will weigh on external demand, as well as on the terms of trade of commodity exporters, given the assumption of lower commodity prices in 2013.”

On top of that, India’s government is overtly “striving to undermine its gold bugs” according to some sources. Perhaps not “undermine” them, but certainly to dampen their current account deficit-aggravating appetite for the yellow metal. Less than one year after it doubled the import duty on gold from 2 to 4 percent, the tariff was once again hiked to 6% on Monday.

The import duty lift is part of a package of measures that includes allowing golf ETFs to deposit physical gold with banks as well as modifying bank-based gold-deposit schemes to make gold less attractive as an asset. Naysayers may dismiss the official efforts as being doomed to fail in view of India’s historic love affair with gold. Yes, but…note the 28% decline in Indian gold imports (Sept. 2011- Sept. 2012) as well as the 11% drop in same (calendar 2012) to 593 tonnes.

Finally, the SocGen material posits the idea that gold might recapture some of its lost stature in the international currency reserve system. A whole lotta noise was made in various gold forums and on several “news” outlets catering exclusively to the gold bug community this week about the imminent move by China to back its currency with gold (dream on) and/or that gold is about to make a big return as the world returns to sanity.

After decades of benign and not-so-benign neglect, perhaps gold might be elevated by a few notches in the eyes of the world’s central bankers. However, purchases by Borat’s homeland and other third tier countries notwithstanding, will gold once again come to represent 60%+ of global reserves (as opposes to ~11% now)? Nope. Sorry to be the bearer of unpleasant news. But, hey, let’s take a quote directly from the OMFIF document’s pages themselves. Conclusion Number Three:

“Gold will not replace fiat currencies; the Gold Standard will not return. Nostalgia for a supposed golden age of the Gold Standard, coupled with concerns about governments' ability to manipulate fiat currencies, occasionally gives rise to calls for, or predictions of, a return to gold as the underlying basis for the international monetary system. This is not possible. Gold’s relative scarcity means that it could only ever replace a fiat currency on a fractional basis. Even that is unlikely, as a legacy of history.”

When a World Gold Council-commissioned study (perhaps more adequately named as the World Mining Federation’s Gold Promotion Association)such as the above draws such a conclusion, the case for gold-as-money (in the classical sense) is open and shut. Mostly, it is the latter. You are sure not to read any such finding in your weekend parsing of gold-oriented websites. It is, after all, heresy of the highest order.

The overarching potential price-moving agent that SocGen sees for gold however remains the level of real interest rates. Therein, of course, lies the proverbial ointment-coated housefly. As Goldman and Citi recently pointed out as well, if interest rates rise, gold will “likely get crushed.” Or, you could ask billionaire investor George “Gold Is The Ultimate Bubble” Soros about this topic and get the same results.

Mr. Soros said on Thursday that “once the [US] economy gets going, then interest rates are going to take a big leap.” As far as he is concerned, such a jump may well take place later this year. Mr. Soros believes that the process “may have already begun.” Indeed, this might be the case, especially if we were to take a look at what’s happening in the bond firm business and where the ‘smart’ money has started heading.

Reuters News reports that “some of the biggest U.S. bond firms are making aggressive pushes into the $5.17 trillion equity market business, spurred by fears the bull market in fixed income could end and anticipation of growing retail investor interest in stock funds.” Following five years of “monstrous” fund inflows into fixed income markets, the bond market’s most notable players are suddenly quite interested in…stocks.

More than $1 trillion in money has flowed into bond mutual funds since 2007. This process was a reflection of “investors' flight to safety from the U.S. and European debt crises, as well as expectations that bond prices will rise as interest rates fall.” We have now come to a point where rates are hardly able to “fall” any further and where the US economic recovery is beginning to put upward pressure on rates and just plain ‘pressure’ on the Fed to exit from its current monetary policy stance sooner rather than later.

Speaking of money and flows thereof, we have previously reported here that Japanese investors have been selling their gold for many years now, into rising prices. Well, confirmation of this phenomenon came this week from Japan’s largest bullion retailer. This writer had the pleasure of visiting Tanaka Kikinzoku Kogyo K.K.’s Ginza establishment several years ago and meeting the firm’s Chief Executive. Tanaka is a most impressive and trusted gold source for the Japanese public.

Alas, the statistical findings released by Tanaka dispute recent World Gold Council gold activity metrics for that country. The WGC reported that the 12-month period ending in October of last year saw private Japanese gold demand (sales vs. purchases) as “virtually balanced.” We must guess that such a conclusion depends on one’s definition of the words “virtually” as well as “balanced.”

Tanaka K.K. reported that for the eighth year in a row, Japanese investors have dishoarded their gold as prices rose to greater heights. Last year, the firm purchased 28.5 thousand kilograms of bullion from Japanese sellers while it only sold 22.8 thousand kilos to same. Overall Japanese gold demand turned net negative in 2006 as locals let go of 42 tonnes’ worth of investment bars and coins. The tonnage outweighed the 33 tonnes that jewellery offtake witnessed that year. Motto: There is a time to buy, and a time to…reap benefits. Did not want to say: Buy low / Sell High. Guess we just did.

Finishing this week’s roundup, are two mining-related items.

First, we brought you news about interstellar precious metals mining circa April of last year. Some of you responded with calls of “Science Fiction!” Well, behold this little news tidbit then:

Washington, January 23(ANI): US space company Deep Space Industries has announced that it will send a fleet of asteroid-prospecting spacecraft out into the solar system to hunt for resources to accelerate space development to benefit Earth. These “FireFly” spacecraft utilize low-cost CubeSat components and get discounted delivery to space by ride-sharing on the launch of larger communications satellites.

“This is the first commercial campaign to explore the small asteroids that pass by Earth,” said Deep Space Chairman Rick Tumlinson (who signed up the world’s first space tourist, led the team that took over the Mir space station, was a Founding Trustee of the X Prize, and Founded Orbital Outfitters, the world’s first commercial space suit company.)“Using low cost technologies, and combining the legacy of our space program with the innovation of today’s young high tech geniuses, we will do things that would have been impossible just a few years ago,” he added. FireFlies' mass is about 55 lbs. (25 kg) and it will first be launched in 2015 on journeys of two to six months. Deep Space will be building a small fleet of the spacecraft using innovative miniature technologies, and working with NASA and other companies and groups to identify targets of opportunity.

Finally, are you wondering what happened to the M&A fever that was gripping the mining sector just a few short years ago? From the Wall Street Journal’s Blog “Deal Journal” we bring you the (possible but most likely) answer:

“Don’t hold your breath for megadeals in mining as a new crop of CEOs takes over. At least 20 mining chief executive officers have stepped down in the past year, many under pressure from investors and boards. Tom Albanese, CEO at Rio Tinto PLC, was the latest to leave the corner office, agreeing to step down last week as the mining giant said it would write off roughly $14 billion in the value of various assets. “There is a frequently expressed view that the demise of a number of CEOs is partly related to failed or unsuccessful acquisitions,” said Patrick Loftus-Hills, head of global metals and mining at Moelis & Co. “That puts a lot of pressure on the replacement CEO if they are wanting to make a big, bold move.”

Until next time,

(The author is the senior metals analyst - Kitco Metals)