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Modern Alchemy: Turning Gold Into Paper

By Jon Nadler       Printer Friendly Version Bookmark and Share
Mar 20 2009 4:16PM

Good Afternoon,

Friday's action offered no more than a mixed bag of goodies for most markets. The greenback rose (last seen at 83.83 on the index) on account of the fact that some traders viewed the decline recorded over the past 48 hours as significantly overdone, and also based on the news that EU leadership would effectively bail hard-hit Eastern European countries out, with a doubling of available credit lines to nearly $75 billion. Something else that will also double (if the EU and the US have their way): the budget of the IMF - to $500 billion.

Just call it a coordinated global stimulus of half a trillion, and pray it's enough. Oh, and find the money first. Aside from the 407 tonnes of gold earmarked for poor nations since a year ago. The effects of the dollar's somewhat mild (within the context of its recent slide) recovery were immediate, albeit equally tentative as well. Gold prices fell to near $950 an ounce, after probing as high as near $970 overnight, crude oil sank by half a dollar to $51.55 per barrel, and European and Asian stocks turned mixed. The Dow turned negative once again, losing 115 points on the day mainly on account of still recalcitrant financial shares.

New York spot gold was quoted at $952.00 per ounce with less than two hours to go, as the trade prepared to close out the week's busy logbooks. What a week this was, punctuated by a nearly $100 trading range. Don't know what the logbooks will show for a final tally, but it is sure to be a mixed set of results, at best. The trade remains dollar-centric as most notions that gold and the dollar can coexist in some kind of symbiotic relationship have either been mothballed or shredded.

Gold also continues to be defined (and perhaps confined) by the dynamic of investment demand versus jewellery offtake, versus scrap supplies. Mine production and central banks have - for the moment- become marginalized factors in the overall equation. The IMF's funding situation adds another dimension to the story, but not as urgent a one as the collapse of bauble demand in India, as well as worldwide. Analysts project Indian gold demand to possibly fall to under 400 tonnes this year -make that to a potential 100 tonnes (!)-, after having already contracted by 45% vis a vis 2007, last year. In such an environment, waning central bank sales or difficulties in mine production become less important as well.

Anything under 400 tonnes of gold offtake in India, would amount to the worst demand from the best gold consumer on the planet, in this decade. Adding to the fabrication demand problem, the GFMS finding that the global gold market's 600 tonne annual jewellery demand has fallen to levels last seen in 1989 - about 2100 tonnes. The credit crunch and resultant decline in economic and consumer activity have severely curtailed the acquisition of decorative gold products. Scrap supplies, on the other hand are choking refiners and booking them months in advance. Walk down 47th Street and behold the dozens of billboard sandwich-men shouting " Sell Your Gold Here! Sell Your Old Gold Now! " Bear in mind that the gold buying frenzy of 1980 had jewellery and pawn shops left without metal on offer. Not quite the same picture today:

 Heeeeere's......a bunch of CASH!

The prognosis for next year is no brighter. We remain doubtful that investment demand can fully overcome the cratering of such substantial offtake channels. At the very least, it might make for difficulties in prices advancing substantially at this time, and in the maintenance of high prices once the immediate economic threat abates. To think otherwise, is to try to reinvent the structure and internal dynamics of the gold market.

Silver gained 18 cents and was last seen trading at $13.75 per ounce, while platinum lost $11 to $1112 an ounce. Palladium showed no price movement, finishing at $204.00 per ounce. The automotive sector got a bit of good news as the TALF program launched with a near $5 billion injection intended to help fund car loans. Meanwhile, GM's CEO touted that the firm is going to do nothing short of reinventing itself, following its de facto demise. So,....that's what it took! Wow. Brilliant leadership. Not. Just more of the same: too little/too late.

Our good Marketwatch friend,  Myra P. Saefong filed her latest story on gold from Tokyo this afternoon, and it raises a valid question -actually, a series of them - in light of the events that transpired over the past year, and notwithstanding this week's sheer roller-coaster chart pattern. We bring you excerpts from her Commodities Corner story. Myra observes that:

"It's been a year since gold made history by reaching a high of nearly $1,034 an ounce.

So why is it that this superhero of safe-haven investing has been languishing in the face of perceived dangers about a lengthy slump in the world economy, fears of a runaway global money supply and anxiety about inflation?

 Chart of GLD

These are dark days in most markets, which might ordinarily seem to translate into very good days for gold. Although the world has been experiencing "one of the worst economic times in the past century, gold prices have yet to breach prices from a year ago," said Thomas Hartmann, an analyst at Altavest Worldwide Trading.

Futures prices climbed as high as $1,008 last month, only to crumble over the next eight trading sessions well below their historic high marked on March 17, 2008.

That failure has left many market pros scratching their heads. Gold traders have waited in vain for gold's return to record territory as global economies continue to struggle and governments print money out of thin air. What gold really needs is "more evidence to support its cause," Hartmann said. "The market needs fresh, compelling news to take this market to new highs."

It did get a little of that evidence on Thursday, when the Federal Reserve vowed to buy government bonds, news that helped lift the precious metal's price by more than 8%. In that sense, gold has proven that it hasn't lost any of its appeal, even though the trading environment has changed quite a bit in the last several months.

When gold was on making its mighty rise a year ago, it was a story of investors betting on the growth of China and other developing nations, says Brien Lundin, editor of the Gold Newsletter.

And "through last fall, up to the present, gold performed as a safe-haven play. Scared money went into gold as insurance against global financial catastrophe," Lundin said. "Gold was not only the currency of last resort, it was also the piggy bank of last resort -- the ultimate source of liquidity."

It still is.

But the high in gold prices last year was largely due to the fact that the market was becoming "overheated [with] huge swathes of fund and investment monies, in a madness-of-crowds style, swamping what is a relatively small market," said James Moore, an analyst at in London.

That was "unsustainable from a fundamental perspective as physical-jewelry demand tumbled," he said. Many other factors have worked against gold. The tightness of the credit markets has forced investors to cash in more profitable assets such as gold, according to Moore. Gold was also overbought, having "come a long way in a relatively short space of time, recovering form the October low of $682 to $1,006 in the space of around 16 weeks."

And it wasn't just gold that got hit during the initial deflationary response to the economic meltdown; all commodities suffered as well. Gold simply cannot "make too much headway in the absence of a broader commodity advance," said Ed Bugos, director of mining finance at Strategic Metals Research and Capital. Oil prices have dropped below $50 per barrel from their record of more than $147 in July.

Up until last week, Dennis Gartman, author of commodities newsletter the Gartman Letter, said he was bullish on gold. "When it began to fail, it struck me odd, for it has all the news possible to move higher and yet it can't," he said. Traders are long on gold, the gold exchange-traded funds like the SPDR Gold Shares ETF are "way, way, way long, and with stocks around the world showing signs of strength, money shall move away from gold and into equities or other commodities," Gartman said."

Brien Lundin's measured views have been part of our commentator's corner for quite some time. To us, he remains one of the class acts of the gold business both in terms of substance, and style. Now, if we could only get him to write more of his nuggets of wisdom...a bit more often...

Please note that we are off to NYC for the launch of the CPM 2009 Gold Yearbook next Tuesday. As such, commentaries might be late, or missing altogether, on occasion. However, we promise you some juicy content for the ones that will make it to the editor's desk- something the CPM annual analyses have always been chock-full of. Stay tuned.

Best Regards for a Pleasant Weekend,

Jon Nadler
Senior Analyst
Kitco Bullion Dealers Montreal



Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in precious metal products, commodities, securities or other financial instruments. Kitco Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.