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The Gold Vote - No Free Lunch

(Kitco News) - From the onset of the millennium, gold had a nice run and then it abruptly ended in 2013.  QE3 helped to drive the stock market to new historic highs and the attraction for gold as a diversifier asset faded. The impatience and risks of QE3 were among this analyst’s key take-away’s from Ben Bernanke’s book, The Courage to Act, published in October 2015. The FOMC was impatient with the economic recovery and the potential risks of long-term unemployment, thus embarking on the QE3 bond buying program in September 2012.  Few economists dispute that QE3 pulled forward a potentially significant amount of future stock market positive returns. At that stage in the second half of 2012, well past the peak crisis period, many market professionals have suggested it would have been better to let markets ‘seek their own levels.’ So here we are, was it a free lunch or is the bill coming due, potentially soon in this election year? Gold investors appear to have voted. Based on the appreciation of the price of gold and the sharp increase in gold ETF holdings so far in 2016, the indication is the bill may be coming due soon.

Live 24 hours gold chart [Kitco Inc.]

The price of gold drives ETF flows. Since 2013, the correlation between the weekly percentage change in price of gold and the percentage change in total gold ETF holdings has been double, when comparing the prior week gold price changes, rather than coincident week gold price changes. When comparing the same week changes between the gold price and total gold ETF holdings, the correlation has been about 0.26, compared to 0.56 using the change in the price of gold the week prior. Perfect correlation is 1.0. The advent of ETFs has provided a more fluent and transparent vehicle for investing in most assets, notably gold and the precious metals. ETF flow information is available almost instantly compared to most, more traditional supply and demand measures which need to be interpreted, like futures and/or have a substantial lag.   

Higher Prices are likely needed to bring on supply.  Price and expectations of price changes, are the primary sources of supply and demand in commodities, and most assets for that matter. If soybean prices are relatively high, a Midwest farmer is more likely to plant beans rather than corn. Gold is a unique case. It is not really a commodity (less than 10% is consumed annually for industrial purposes) and the vast majority of the gold mined in history, near 170,000 tons, still exits. Gold sometimes acts like a commodity, but is more of a currency, generally classified as such. This week, the World Gold Council released a report noting that Q1 2016 was the “second largest quarter on record” for gold demand, “driven by huge inflows into exchange traded funds (ETFs).” It makes sense as Q4 2015 marked the lowest end-of-quarter price for gold at $1,062/oz. in six years, since the Q3 2009 ending price of $1,008/oz.  Gold and silver became very attractive at the end of 2015, demand is following. In an environment, absent the sustained appreciation attraction of the primary asset class, the stock market, what might it take to increase gold and silver supply - higher prices.   

Special Contributor to Kitco News 
Mike McGlone 

Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Metals Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Metals 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 commodities, securities or other financial instruments. Kitco Metals Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.
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