Gold Prices, Real Rates and "Unsustainable" Debt
Industry experts share their views on what's driving gold prices...
IT IS EASY to become focused on the short term drivers of Gold Prices – especially with gold on its longest winning streak in four decades, writes Geoff Candy of MineWeb.
The danger in this is the conflation of these shorter term moves with the reasons for gold's decade of outperformance. And, as a result, a false confidence in gold's invincibility.
For Paul Walker, CEO of leading precious metals consultancy GFMS, "The primary driver, if you like, the underlying current that's been supportive of this for the better part of eight or nine years now, has been an environment of negative real interest rates.
"If you actually deconstruct the last ten years in the gold market," he says, "the one underlying common denominator has been the search for yield in a world of negative real interest rates. If you look at the real interest rate environment in the US and the Euro and elsewhere, effectively it's either been zero or negative for much of the last ten years."
This search, he says, has played out in a number of ways, over the years but "what's happened, I think, since 2005...as gold has gained currency in the popular imagination, so you've seen this more rapid appreciation of the Gold Price but the common underlying theme here has been low interest rates and back in 2004, 2005. I think the really astute investors, and I take my hat off to them, were guys who were saying there's something unsustainable here.
"The primary focus at that time was the US trade deficit and that this was unsustainable and that the Dollar would weaken. That was the kind of primary argument and as we've moved on from then, still against the backdrop of negative real interest rates, we've had people saying, well, not only do we have these imbalances, which will lead to a weaker Dollar but we've got systemic problems and then, of course, all hell broke loose in 2008 and we're picking up the pieces now. Well, we're trying to and are very ineffectively picking up the pieces – both fiscally and in the monetary arena – and this is why investors are moving back into gold."
However, a continuing bull market for gold doesn't preclude the need for caution. Speaking on Mineweb.com's Gold Weekly podcast, CPM Group MD, Jeff Christian pointed out that right now there are two factors pushing up the Gold Price and "each has a reason for investors to be cautious."
One the one hand, he says, you have the macroeconomic factors in both the US and Europe and on the other, you have the approach of the August Comex delivery period.
He told Mineweb, "If the US government suffers a de facto, much less a de jure, downgrading of its credit, that could have devastating consequences for the global economy and for everybody. That could drive the Gold Price to $1725."
As of Monday, he added, there were "28 million ounces of open interest in the August contract and that's going to have to be bought back on roll forward or delivered into and, between now and the end of July, that would cause upward pressure on gold."
And, he says, while gold could go up in the absence of one or the other of these factors assuming the other remains in place, "If the macro [situation] is resolved and the roll is behind us as of 1 August, both of those factors could disappear and take the legs off from underneath gold.
"This is a very similar situation to what we saw in silver in April. In April you saw silver go from $37 to $49 and if you looked at the metrics people were not Buying Silver coins in particularly heavy levels – they were not Buying Silver through the bullion market or through ETFs. What was going on that was driving the price up was some futures purchases because of debt concerns in Europe and the United States and the roll of the May silver contract. By 29 April that roll had ended and you had 375 billion ounces of May silver bought back. You were down to seven million ounces and the prices went from $49 to $33 in about three or four days. The same of kind of vacuum can occur in early August in gold."
Indeed, Christian says, CPM had actually expected Gold Prices to peak in the first half of 2011 and then come off because people would become more sanguine about the global economic prospects.
"But," he says, "all of those things that we thought would be resolved in the second quarter, the European debt crisis, the US debt crisis, Chinese inflation, remain unresolved so they are probably going to continue to be worrisome for investors and keep investors Buying Gold for a longer period of time.
As a result, the group sees the floor for Gold Prices around $1480.
"On a short term basis we are talking about $1580/$1585 right now, but over the course of August we won't be surprised to see the price of gold give up $120 or $140 from where it is today."
On a longer term basis, Christian remains more bullish on the price of gold, saying that the price of the metal is likely to remain about $1,000 "for the next decade at least".
But, he adds, "We do expect interest rates to rise sharply which will have something of a negative effect on gold but we don't think it will be as negative as it was in the period from 1980 through 1994 because at that time interest rates were rising for different reasons."
This time we think interest rates are going to be rising in part because suspicion of Europe, Japan and US sovereign debt issues and deficit issues are going to persist and we think that investors, without getting central banks pushing interest rates up, it's going to be investors demanding higher interest rates in order to take the risks associated with lending these governments money. And so that environment probably will be much more supportive of Gold Prices than say the environment in which interest rates were very high in the 1980s."
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