Reasons for Higher Gold Prices
Thursday, 7/25/2013 09:38
Gold prices look set to rise for clear reasons, says this mining stock analyst...
RALPH ALDIS CFA rejoined US Global Investors as senior mining analyst in November 2001. A geology graduate with a master's in energy & mineral resources from the University of Texas at Austin, he was director of research for 10 years before moving to Eisner Securities' high net-worth group and overseeing its mutual fund operations.
Returned to
US Global Investors as senior mining analyst, and now manager on several of the group's leading funds, here he gives
The Gold Report his reasons for expecting higher gold prices later in 2013...
The Gold Report: The CEO of US Global Investors, Frank Holmes, recently told gold investors to "keep calm and invest on." I hope you have the T-shirt royalties for that. But for what reasons do you say it?
Ralph Aldis: We like this phrase because it reminds investors not to let their emotions get the best of them. Instead, investors need to plan an investment strategy and make sure it includes all their assets. Investors need to think about what the weightings are in those assets, track quarterly performance numbers to make sure assets aren't correlated with each other, make sure there is diversification and rebalance the portfolio every year.
TGR: What's a good asset allocation mix through at least the end of the year?
Ralph Aldis: The asset mix will be a function of age, investment objectives and how soon liquidity is needed. Generally, a maximum of 5-10% in gold and gold stocks, 50% in equities, 30% in fixed income and the balance in some other asset, such as real estate or home value.
TGR: US Global Investors recently reported that gold has 30% upside potential over the next 18 months. What reasons do you believe will specifically move the gold price?
Ralph Aldis: A 30% rebound is well within the normal volatility swings of gold for a given year. Right now, we have the seasonal rally in the gold market. Buyers, like jewelry manufacturers, return to the market usually in late July or August and start restocking to get gold into the pipeline.
Another reason is the employment data that recently came out. It beat expectations, and people got excited. But most of the gains came from part-time jobs, which were up 360,000, and we lost 240,000 full-time jobs. The full U6 unemployment rate actually climbed to 14.3%, up from 13.8% in May. The quality of the employment numbers was dismal, but people saw the headline number and thought "Woohoo, go long equities!" Macquarie Research released a study on July 11 that said the Federal Reserve tapering is much further out than expected – Q4/16 not Q4/14.
TGR: Can a climbing gold price and a strong US economy coexist?
Ralph Aldis: Yes. Some economic growth and a little inflation could get the gold price and the economy growing in sync. But you need the Dollar to weaken, which is a function of US interest rates going down. The Federal Reserve doesn't want a rising interest rate because that stifles some of the economic activity and makes the US debt burden greater.
TGR: What about central bank buying by emerging market countries? If their economies are stronger, will some of the spoils go into gold?
Ralph Aldis: We've had seven months in a row of central banks buying gold. The US Dollar isn't as significant to official holdings as it used to be. It has lost a lot of influence, and emerging markets don't feel they need to own Dollars instead of gold.
TGR: But if the American economy is rolling, chances are the global economy is doing well. If these emerging market economies buy more gold, won't that put pressure on the gold price?
Ralph Aldis: That would be the hedge that I would want to be making, too, trying to diversify some of that risk as some countries, like China, probably have way too many Dollars in their official reserves.
TGR: What are some signs for investors that it's safe to return to the precious metals sector?
Ralph Aldis: We look at the year-over-year changes in the gold price to indicate whether the price has moved up two standard deviations from its mean, which means that gold may soon correct, or whether the metal has moved down two standard deviations from its mean, in which case, gold is due for a rally.
Also, look for the exhaustion of money flows out of the gold sector, which is happening now. We're just beginning to see positive money flows come into some of our gold funds now.
We're also seeing gold analysts capitulate. These people get paid to love stocks, and they capitulated. When analysts do that, I believe it's a sign to buy.
TGR: Has the slide in precious metals prices and the recent selloff exposed flaws in precious metals exchange-traded funds (ETFs)?
Ralph Aldis: If you're a US citizen, the biggest drawback is a tax liability issue. The SPDR Gold Trust ETF is taxed as a collectible, so if you recently sold and made a gain, you actually have to make twice as much than you would on a gold stock investment. It's liquid and gives you exposure, but it's just not tax efficient.
TGR: You said investors should have 5-10% of their portfolios in gold and gold equities. Why should they hold Canadian or American gold equities versus gold futures or gold ETFs?
Ralph Aldis: Tax efficiency is a consideration. Plus gold equities can move two to three times the magnitude of the underlying
gold price. And our research has found that a small weighting of gold stocks in a portfolio of US companies historically increased return with the same amount of risk.
TGR: But some of the names you're following have limited liquidity. How do investors deal with that?
Ralph Aldis: Sometimes people look at our mutual fund holdings and marvel that there are 150 names there. But we want to have enough liquidity to adjust positions. Maybe we'd like to have a bigger position, but if investment conditions change for that particular stock, you could compromise your liquidity. If we can build a portfolio out of 10 or 20 junior names that meet our criteria, then we're insulated from some of the extreme price moves.
TGR: What is price leadership?
Ralph Aldis: We look at price performance over a period of time and for statistical significance of outperformance relative to others in that model. When the market knows more than you do, you can see it through price leadership. Ask why a stock is outperforming and see if it makes sense.
TGR: Do you have some parting thoughts for us, Ralph? Maybe something to bolster the hopes of the retail crowd?
Ralph Aldis: Gold investors are seeing two newer trends in gold. One has to do with a move out of paper gold to the physical holding of gold. Chinese gold imports from Hong Kong have more than tripled since 2012 and premiums for gold physical delivery in Shanghai jumped above $30 per ounce. In addition, the US Mint suspended sales of its smallest American Eagle gold coin after it sold off its entire inventory.
The second trend is the extreme pessimism toward gold, with speculative short positions hitting a record level. As of the beginning of July, the number of outstanding gold short contracts was close to 140,000. These are reasons why I think investors will see some higher gold prices later this year.
TGR: Thank you for your insights.
Email us