Commodities | Jan 30 2013
By Greg Peel
Germany's central bank has been repatriating its gold holdings from foreign shores. Eyebrows have been raised across the global markets. Does Germany know something?
Not particularly, one might suggest. Germany is the remaining foundation stone of a single-currency economic bloc it is desperately attempting to hold together, hence it makes sense that (a) Germany holds gold and (b) it can put its hand on that gold and sell it readily if need be. Thus the Bundesbank plans to raise the level of German gold holdings held on German soil from 31% of the total to 50% over time. The other 50% will remain in vaults in the world's two biggest international market places for gold – London and New York.
Germany is the second biggest individual holder of gold after US if for no other reason that the Bundesbank refused to sell any when the UK in particular and most of Europe (and Australia) madly sold late last century. And as European central banks continued to sell steadily under agreement last decade, the Bundesbank held fast. The major reason most of Germany's gold is not held within Germany, nevertheless, dates back to the fear of Soviet invasion. As that fear has arguably now eased, there seems little reason to maintain a geographical risk hedge other than to have stores held in the right market access locations as noted above.
On another historical note, some of Germany's very old bars held offshore do not match today's more stringent standards and hence will come back home to be “repaired” into internationally agreed saleability.
European selling of central bank gold ceased a few years ago as the eurozone crisis threatened. At the same time, other central banks – particularly those from emerging markets such as the BRICs – have begun buying gold to balance out almost gold-less sovereign portfolios. Says Deutsche Bank:
“The relatively recent actions by central banks to not only buy gold but also to repatriate and upgrade owned bars, further demonstrates in our view an implicit acknowledgement of its monetary importance”.
Does that imply “bullish”?
When gold breached US$1900/oz in early 2012, everyone gasped but really no one was that surprised. A combination of central bank money printing and the inflation implications thereof, and the risk of wealth loss through the impact of further financial markets implosions, was enough to ensure that investors saw very good reason in holding the metal. Analysts were forecasting still higher prices, and the introduction of exchange traded gold funds in the previous decade ensured every investor, no matter how small, had access to easy investment.
By the end of 2012, the same analysts were still talking gold up – to US$2000/oz, US$2400/oz, or even beyond. One might argue the “safe haven” arguments for holding gold against further financial distress – such as a eurozone disintegration, a Chinese hard landing or a return to US recession – diminished somewhat as the clock struck 2013, but a lot of that has been to do with the money the Fed continues to print, the money other central banks have been printing, the money the ECB stands ready to print, and the money Japan was threatening to print at the time and now is. That is, monetary inflation risk.
The bottom line is that if gold still has a long way to rise, no one thought to tell gold. Since its initial pullback from the US$1900 mark it has done little but wallow. Now it is struggling to breach even US$1700/oz again, seemingly no matter what the impetus. Is all this talk of 2000-plus gold misplaced?
If we recall those harrowing days and months that were “the gauge”), nor much influence from investment flows into ETFs, or even inflation expectations. There is a bit of movement when inflation expectations specifically change, but realistically the US dollar is the clear driver. And over the course of 2012, the negative correlation between real interest rates and gold returns seems to have broken down, Citi notes.
Two points to note: Firstly, if gold is a safe haven it should spike up in price when sudden “disasters” occur, such as Lehman, Greece and the various European scares thereafter. But each time gold has spiked down as investors have desperately raised cash to cover margin calls on financial assets. Secondly, each push to new highs in the gold price has been accompanied by an ETF retail investor “herd”. That herd has shown it can just as easily sell as buy.
Citi has applied its modelling to provide a forecast for the USD gold price over 2013. “Given the high and resilient negative relationship between the US dollar and nominal gold returns,” the economists declare, “the model assigns a very high 70% weight on dollar drivers, and only a 20% weighting on ETF flows and a 5% weight on real interest rates and inflation respectively, resulting in a forecast for a minus 4.2% annualised weakening of nominal gold prices to year end”.
In price terms, this means Citi has cut its three-month gold price forecast (all prices US$/oz) to 1700 from 1770, and its six to twelve-month forecast to to 1650 from 1770, lowering its 2013 average price expectation to 1675 from 1750.
Goldman Sachs, on the other hand, likes gold in the shorter term. The analysts believe the upcoming debt ceiling debate in the US will prove a catalyst for higher gold prices. Recent weakness in the gold price thus represents a good entry point for long gold traders. That's the good news (if you're a gold fan).
The bad news is that Goldman Sachs believes 2013 will see the peak in the gold price.
The analysts expect the US economic recovery will finally take off in 2013. The Fed will continue with its asset purchases (QE) and continue to hold its cash rate at zero which is an incentive for higher gold prices, but the US economy will win out, sending the US dollar higher and gold lower. A recovering US economy will drive investors out of “safe haven” investments. The price of gold will continue to fall over the next five years as the Fed cash rate returns to 2%.
A point to note: Almost every time the Fed has released a monetary policy statement following an FOMC meeting over the past five years, the world has impatiently scrutinised the document for hopeful signs of further easing. The Fed will issue a statement again tonight, but this time the world is looking for clues as to when the Fed might start winding back QE.
The very bad news, if you're a gold fan, is that Goldman Sachs is forecasting a 2018 gold price of US$1200/oz. That's about a 28% loss from here.
Australian gold investors must carefully note, however, that for a lot of the above argument we could substitute the word “Aussie” for the word “gold”. If that which has been suggested above does drive the USD gold price lower, it should also drive the Aussie dollar lower. If those movements were absolutely equal, the AUD gold price would not move. On a more imperfect balance, a fall in the USD dollar gold price will be tempered in AUD gold terms if the AUDUSD also falls.
Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.