Gold's Indian Season

Deck the halls with Gold Bullion. But for goodness' sake, do it in September...!

WE LIKE GOLD here at The Old Hat Factory, writes Al Robinson for The Daily Reckoning Australia in Melbourne.

   In fact, we keep a little jar of gold flakes on our desk. Mainly because it keeps pace with inflation, we like gold as a good long-term way of not losing money.

   Isn't that the aim of investing? Maintaining wealth? Keeping your nest-egg from becoming a poverty omelette?

   Well, Gold has meant "wealth" for ages. Before the economic revolution in the 18th Century, the two ideas were inseparable. If you wanted wheat you went and found some wheat. If you wanted wealth you went and found some gold.

   This was before economists began to toss around other ideas of wealth. The new ideas varied in quality. Adam Smith said a man's real wealth came from accumulating capital and investing it. Karl Marx said capitalist wealth only ever came at the expense of workers. Craig James said shares always go up, so buy them and you'll be wealthy.

   Some ideas are better than others. But before Smith's idea, Gold held sway as wealth. Everyone agreed on this. Even Isaac Newton was a part-time alchemist. Between inventing calculus and gravity, he'd pop out to the back shed to whip up a batch of gold.

   That's the funny thing about alchemy though. What if you actually could make gold from other metals? Gold would be worth about the same as those other metals. Basically worthless. It wouldn't be rare any more. It wouldn't be precious.

   Yet today we have an economic system founded on this fallacy. Paper money is "wealth" backed by the government. The government employs alchemists like Glenn Stevens and Ben Bernanke to create more money. And that means the whole stock of money is worth less.

   Meanwhile, no-one's printing gold yet. We've tried every combination and permutation of every ingredient in our cupboard. None of it makes gold, although with a hybrid of vegemite and honey we think we've invented a grand new condiment. No new gold supply though.

   And all this time, Bloomberg says, South African gold production dropped 10% last year. Energy production over there is unreliable. And when it comes down to it, the lack of new gold supply makes it a better wealth-holder than cash. We'd take scarcity over abundance any day. Gold is scarce. Fiat money is abundant.

   That'll become very obvious soon. The failure of Fannie Mae and Freddie Mac is pushing Bernanke and the US Fed closer to a wholesale dollar-printing scenario. But you might not have to wait that long for gold to react.

   Demand from the Indian jewelry market hits its stride around this time of year. Or, at least, that's been the case every year for the last 6 years.

   Since 2002 gold investors have gotten a 10% Christmas present. Ten percent, on average.  Deck the halls with bullion. But for goodness sake, do it in September.

   Last year the September-December surge was 24%. Following that Indian jewelers and worried investors helped take gold to its highest peak ever. The fundamentals of the gold market haven't changed much in a year. And the price is where we left it at the end of last year, US$800.

   The gold companies, however, are a completely different story.

   You'd expect big gold producers to track with the gold price. They have, sort of. But in the last month they've gone off the rails. With the exception of Newcrest, most of Australia's larger gold producers have lost two years of share price gains. They're trading at 2006 prices. Back then gold was US$600.

   A lot of commodities are cheap now. But gold producers have taken the most serious of whackings. They've been the scape-goats and whipping-boys for commodity bears.

   If you go further down in the gold food chain, things are even cheaper. Smaller gold producers are about as fashionable as a pink mohawk at the Melbourne Cup. Take our favorite Diggers and Drillers gold pick. It's on sale at 2005 levels. That price implies something even more dire than a gold price of US$600. There's nothing wrong with the company. It's selling lots of gold. But it's at a huge discount.

   There's a point for discussion. When the market for gold equities turns around, what'll lead it up? Chronically oversold juniors? Or producers with more leverage to gold itself?

   We don't know to be honest. We probably lean towards producers. To ride the gold express you'll need a ticket. To benefit from a rising Gold Price, you need some gold. Some explorers 'might' have gold. But a lot of them only have patches of spinifex-ridden desert. And even if there's gold in the ground, it might not be mine-worthy.

   Considering that this sell-off hasn't been completely rational, it's difficult to tell exactly when it'll turn around. You can't predict what a crazy man will do next. He might just keep acting crazy. But we do know that these things turn around eventually. Nothing's as cyclical as the commodities sector. And gold firms have taken a bigger haircut than most.