Indian Gold Demand Slowing, But Central Banks Are Buying

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This story features NEWCREST MINING LIMITED, and other companies.
For more info SHARE ANALYSIS: NCM

This story has been republished from yesterday to correct the mentioning of UBS having lifted its gold price forecasts for the years ahead. This should have been Bank of America Merrill Lynch. FNArena apologises for the error and for any confusion caused by it.

By Chris Shaw

Gold demand from India declined sharply in 2009, falling to 480 million tonnes for the year from 712 million tonnes in 2008. But as Citi notes, this trend appears to be reversing in 2010, the latest World Gold Council (WGC) data suggesting a pick-up as first quarter demand hit 193.5 tonnes.

This is an increase of nearly seven times from the same quarter of last year and represents around 75% of total world demand. This highlights just how important India is to the demand side of the gold market. Also growing in importance on the demand side in Citi's view is gold buying for portfolio diversification reasons, as investment in gold ETFs continues to increase on the back of stronger prices.

With respect to India, Citi points out most gold demand is for jewellery, meaning historically gold demand has been price inelastic, but while WGC data for the March quarter shows strong demand, the latest import data suggest demand has slowed in May to around 16-17 tonnes from 34 tonnes in April.

This leads Citi to suggest if prices continue to surge, domestic demand in India is likely to be met not from imports but from a combination of exchanging old items, melting down and re-making pieces and a shift to costume and gold-plated jewellery.

This is not necessarily a problem for gold prices, as Credit Suisse notes more WGC data for the March quarter showed central banks were net buyers of 42 tonnes during the period. This continues the trend of the last 12 months when central banks went from de-stocking to re-stocking. Over the last year Credit Suisse notes central banks have made net purchases of 753 tonnes.

The important thing about the data, from Credit Suisse's point of view, is that they may be understating the extent to which central banks are buying gold, the broker suggesting the actual figure may be several times larger than what is being reported.

The reason for this is many central banks only update their holdings once every few years, with China for example reporting 600 tonnes of gold in the last quarter of 2002 and then 1,054 tonnes in the first quarter of 2009.

To better reflect the increased attraction of gold as an investment class, Bank of America Merrill Lynch (not UBS, see above) has lifted its price forecasts for the metal. The changes are supported by the broker's view continued macroeconomic uncertainty will drive investor interest in the metal, while BA-ML also sees medium-term inflationary risks as a positive for prices.

BA-ML now expects average gold prices of US$1,200 per ounce in 2010, US$1,350 per ounce in 2011 and US$1,400 per ounce in 2012, up from previous forecasts of US$1,110, US$1,179 and US$1,109 per ounce respectively.

The changes to its forecasts mean BA-ML has upgraded its earnings estimates for the gold stocks in its coverage universe, in particular for Newcrest ((NCM)), Kingsgate Consolidated ((KCN)), Avoca ((AVO)) and Oz Minerals ((OZL)). BA-ML is currently restricted on Lihir Gold ((LGL)).

The earnings changes are significant, as for Newcrest BA-ML now expects a profit of 673 million this year and $1,099 million in 2011, up from $643 million and $912 million previously. For Kingsgate, BA-ML is now forecasting earnings of $76 million this year and $91 million in 2011, these are up from $74 million and $75 million respectively.

For Avoca, BA-ML has lifted its earnings forecasts to $57 million this year and $97 million in 2011 from $52 million and $70 million respectively, while for Oz Minerals the respective increases are to $357 million and $482 million from $350 million and $465 million previously.

The changes are enough to see BA-ML upgrade Avoca to a Neutral rating. This reflects not only a positive outlook on the gold price going forward, but also recent news from the company the South Kal project may have more exploration and therefore production potential than previously thought.

In terms of its order of preference among Australian gold plays, BA-ML favours Newcrest, rating it as a Buy given it views the company as the pre-eminent gold exposure on the Australian market. Adding to the attraction is BA-ML's view the stock is cheap relative to peers.

Both Avoca and Kingsgate are rated as Neutral, the former for reasons previously noted and the latter as while BA-ML is positive towards the proposed expansion of the Chatree project, this is currently priced into the stock in the broker's view.

Oz Minerals is rated as Neutral by BA-ML, the broker pointing out its copper operations mean it has far less earnings leverage to moves in the gold price.

In terms of market views on the stocks, the FNArena database shows Sentiment Indicator readings of 0.6 for Newcrest, minus 0.3 for Avoca and 0.7 for Kingsgate.

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