GOLD has had a great run but all good things must come to an end. For the first time since the turn of the new millennium, the precious metal’s price looks set for an annual decline, weighed down by the looming tapering of the US Federal Reserve’s quantitative easing (QE) programme, as well as a stronger global economy.
To recap, gold saw 12 consecutive annual price gains, totalling 515.4% or 16.35% per annum, as it rose from US$272.25 per troy ounce in 2000, to US$1,675.35 per troy ounce at end-2012. In 2013, however, the precious metal has fallen 25.7% to US$1,243.97 (about RM3,982) per troy ounce, at press time.
“Gold prices are expected to retreat in 2014, as investors shift into other asset classes, amid speculation that the US will lower its asset buying stimulus. Prices may average above US$1,200 per ounce next year (2014), from over US$1,400 in 2013,” says Gan Eng Peng, head of equities in Hwang Investment Management Bhd.
Gold’s 12-year bull-run reached fever pitch in 2010 and 2011, hitting a high of US$1,900.23 per troy ounce, in mid-2011. Its rise has closely-tracked the expansion of the Fed’s balance sheet, to the current US$3.85 trillion, from US$900 billion in August 2008. Without such aggressive stimulus, the fundamental support for gold prices comes into question.
Already, global gold exchange-traded product (ETP) holdings have declined 29% in 2013, to the lowest level since 2010, amid concerns that the Fed will begin QE tapering, says Gan.
“ETP holdings need to stabilise, to offer better support for gold prices. Apart from the expected Fed QE tapering, weighing on investor sentiment, the performance of alternative assets has aggravated this weakness, despite the tapering being delayed,” he explains.
The delay in the QE tapering has arguably created some short-term support for gold prices. The Federal Open Market Committee in October, 2013, unexpectedly delayed tapering. While gold prices did rebound slightly on the news, they are hardly making a turn around.
“Gold has been presented with a number of catalysts over the past year, and in particular over the past two months, but all of which have failed to reignite investor demand,” notes a research report by Barclays.
On the other side of the fence are gold-believers, such as David Crichton-Watt, managing director of AIMS Asset Management Sdn Bhd, who still favour the precious metal.
“Before any secular bull market goes into its final parabolic rise, there is always a period of deep consolidation, during which all but the true believers are flushed out. Often, such a correction can be as deep as 50%,” says Crichton-Watt.
He points out that gold fell from US$200 to US$100, between 1974 and 1976, but then it rebounded to US$860 by 1980. He believes this can happen again.
“Gold funds have lost their lustre, most gold mining stocks have fallen at least 70% from their highs and some have filed for bankruptcy protection. At the same time, Wall Street is 56 months into a bull market, and is more over-valued than in 2000 or 2007. I would not be surprised if Wall Street is dramatically lower in six months, and gold and gold stocks dramatically higher.”
Crichton-Watt quotes J Pierpoint Morgan on gold’s role in the monetary system: “Gold is money; everything else is just credit.”
That said, central banks have been the only consistent net buyers of gold. The market surplus for gold in the third quarter of 2013, has expanded to its widest since 2005, at 289 tonnes, with total demand falling 24% year-on-year, while supply rose 3% y-o-y, according to Barclays.
Furthermore, India — the world’s largest gold consumer — saw import regulations tightened, in an effort by the Indian government, to protect its current account deficit from widening. As a result, Barclays estimates that India will only import 73 tonnes of gold, in the fourth quarter of 2013, compared with 225 tonnes in 2012. If this trend continues, China would easily overtake India, as the world’s top gold consumer.
Chinese demand heading into Chinese New Year, is expected to provide support on the downside, Barclays notes in its report. However, it also cautions that physical demand would only provide a small buffer for the precious metal.
Local physical demand still strong
The bearish outlook has not curbed the appetite of Malaysian investors for gold. At its peak, over 35,000 investors invested an estimated RM10 billion, in the now defunct scheme by Genneva Malaysia Sdn Bhd.
These days, demand is being channelled into plain-vanilla physical gold, which has picked up, thanks to the relatively cheaper prices.
“Last year (2012), we sold about RM42 million worth of gold. But this year (2013), as at November, we have already recorded RM73 million in sales. That’s almost double. The lower prices are encouraging people to buy. We have also seen our sales of silver pick up, by about 30%,” says Mohd Faizal Mohd Nor, founder and CEO of Nusantara Bullion Exchange Sdn Bhd, a small physical gold retailer.
In the near term, Faizal says the outlook for gold prices is still bearish. However, he points out that at the current price of around US$1,247 per troy ounce, gold is trading very close to the production cost.
“I am not saying that gold prices can’t drop further, but it is close to the bottom. The production cost of US$1,200, will be the support level. Many gold mines have already shut down, because they can’t cover the production cost,” he explains.
Although it appears counter intuitive, local demand is exceeding supply for the time being, since many local wholesalers are reluctant to sell their inventories below cost.
“In terms of volumes, demand is still strong. We have sold about 50kg [of gold] this year (2013). However, it is difficult to get supply from the local wholesalers, so that has been holding us back. For big orders, it is no problem getting gold. But for small orders, it is almost impossible to get,” says Ritzwan Rosli Mohd Rosli, chief operating officer of Golden Bullion World Sdn Bhd.
However, since the outlook on gold prices looks to be flat, many of Golden Bullion World’s clients have been liquidating their inventories, to invest in other assets, including in the recent initial public offering rally, he explains. For now, many of the buyers are high net worth individuals, who have the holding power for gold, he adds.
“The mystique of gold lies in its unique attributes — a store of economic value, portable during political change and war; as well as a prestige item for display. Physical gold also offers tax advantages over collective investment schemes. Coins produced by the Royal Mint qualify as legal tender and are free of capital gains tax, when sold,” says Gan.
Still, it does not reconcile the stark mismatch between local buying habits and the global investment attitude towards gold. For now, consensus indicates that gold will trade sideways in the foreseeable future, barring another financial crisis that would drive up prices again.
That said, the past few years have taught us that, despite its “safe haven” asset status, gold is just as prone to speculation and pricing bubbles, as any other asset classes.
This story first appeared in The Edge weekly edition of Nov 25-Dec 1, 2013.
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