Mining’s old guard needs strong medicine
A new report details subpar investor returns in the mining industry over the last decade, particularly big cap diversified companies which have not adapted to new realities.
“While there are some good reasons to hold gold at the moment, many of the drivers behind gold’s strong, decade-long run look like they have begun to turn and, as a result, the price of gold is likely to fall below $1,000, in the short to medium term, possibly as soon as year end.”
Lorimer Wilson, editor of www.FinancialArticleSummariesToday.com, provides below further reformatted and edited [..] excerpts from Geoff Candy’s (http://InvestWithAnEdge.com/) original article* for the sake of clarity and brevity to ensure a fast and easy read.
5 Main Reasons For Gold’s Strong Rise
So said Nic Brown, head of commodities research at Natixis, when speaking recently on Mineweb.com’s Gold Weekly podcast. Brown went on to say that the main reasons for gold’s strong rise over the last 9 years have been the following:
1. Low gold prices have deterred investments in new mine capacity and led to a fall in mined output.
2. Gold miners have progressively removed their forward hedge books, which has created a huge new source of demand.
3. Central banks, particularly those in Asia, have become net buyers of gold.
4. The world has experienced a period of ultra low interest rates that have reduced the opportunity cost of holding gold.
5. Gold became a very attractive store of value during the recent economic crises.
3 Reasons That No Longer Hold
Brown now, however, believes that 3 of the 5 factors (i.e. #1, #2 and # 4) above have begun to turn around in spite of the fact that the situation in Europe remains potentially destabilising.
1. On the supply side said Brown where, as a result of the higher prices, miners have been investing very heavily in new mine capacity: “In 2009 global mining output was up about 7% year-on-year. The output targets for this year are somewhere around 1.5% to 5% but if you look at Q1 data for big mining companies, the capital is up around 8% year-on-year.”
2. On the demand side, said Brown, Anglogold Ashanti is now the only major gold miner left that still has any sort of forward hedging in place which means that: “There is very limited demand for gold for further dehedging from the miners. Indeed in our view it’s becoming increasingly likely going forward, that the miners’ next move will be towards rehedging their forward books, given that cash costs are still in the region of $500 to $550/oz.”
3. Once central banks begin to raise interest rates, a move some banks have already begun, Brown said “the opportunity costs of holding gold increases.”
As such, Brown said the two remaining good reasons to buy gold (points #3 and #5 above) now hinge on how one reads:
1. the outcome of the global economic crisis
2. the future role of China.
Brown explained that if one starts with the financial crisis one can see, in the significant increase in investment demand for gold, that investors continue to look to gold for a store of value in times of crisis pointing out that: “In the first four months of this year there was very little gold moving into ETFs, something like 15 tonnes but, as the economic crisis in Europe escalated, over 150 tonnes moved into ETFs in the last four weeks.” This investment demand, he said, has crowded out demand from the more traditional side of the market – the jewellery fabrication side – and, if anything, is going to make the gold market more dependent on continued investment in order to sustain current high gold prices.
Why Price of Gold Could Decline
Brown maintained that: “Should we see a resolution of the current sovereign credit problems in Europe and should the Chinese economy return to steady growth with less concern about overheating and inflation, then the investment thesis for gold, we think, is fundamentally undermined.”
However, Brown said: “If there was a slowing in Chinese growth – that in itself could exacerbate some of the concerns there are currently exist about the global economic recovery and heighten worries about sovereign credit but more likely, in our view, China’s effect on the gold market would be felt mainly through its foreign exchange reserves policy.”
Brown sees two factors here, pulling in different directions:
1. China’s desire to diversify away from dollars or indeed euros, and
2. China’s desire for real assets such as gold.
On one hand, said Brown: “Their overall gold holdings remain very low as a percentage of their total foreign exchange reserves so diversification could represent very substantial demand for gold.” On the other hand, Brown believes China’s accumulation of foreign exchange reserves has been inextricably linked to its large trade surplus in recent years saying: “What has happened in the last few months is that China has moved to a balanced trade position such that there is no longer a strong accumulation of Chinese foreign exchange reserves that would need to be put into gold.”
*http://www.mineweb.net/mineweb/view/mineweb/en/page33?oid=105721&sn=Detail&pid=33
Editor’s Note:
– The above article consists of reformatted edited excerpts from the original for the sake of brevity, clarity and to ensure a fast and easy read. The author’s views and conclusions are unaltered.
– Permission to reprint in whole or in part is gladly granted, provided full credit is given.
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