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Special Report 3: After the Crash – The precious metal market today!

14 August 2014

It’s nearly 18 months since the gold market witnessed its sharpest falls in three decades, with the price of the yellow metal plummeting from the USD $1600 to USD $1300oz mark in April of 2013.

That correction wasn’t the end of the pain either, with rallies in both May and the July- August period of 2013 both proving short lived, with gold double bottoming below the USD $1200oz mark in both June and December of 2013.

By the end of the year, investors had well and truly had enough of the barbarous relic, and 2014 was almost certainly going to see further price falls.

According to some retail investor surveys at the time, there was literally 0% bullishness towards the sector, whilst there were predictions of further price falls by analysts taking part in the LBMA survey.

Wall Street investment banks, most of whom only turned bullish on gold in 2011 (many were predicting USD $2500oz or higher in 2012) also completely changed their tune, with an ever more bearish stream of predictions coming out in late 2013 and early this year.

But a year or so on from this epic crash, and with gold one of the BEST performing assets of 2014 so far, where is the precious metal market really at?

Lets get a gauge by looking at some of the key areas to watch, including physical flows, the futures market, gold ETFs and global central banks.

1. Physical Flows

Despite the price correction of last year, 2013 represented a boon year for physical precious metal dealers, with jewellery, bar and coin demand all skyrocketing.

Jewellery demand rose from 1998 tonnes to 2,361 tonnes from 2012 to 2013, whilst physical bar and coin demand rose from 1358.2 tonnes to 1780.6 in the same period, increases of 18% and 31% respectively.

Jewellery demand remained robust in the first quarter of 2014, coming in at over 570 tonnes, but bar and coin demand plummeted, from 464 tonnes in Q1 2013 to 282 tonnes in Q1 2014.

This nigh on 40% fall in demand on a year on year basis is likely to carry over into Q2 2014, especially considering the record numbers we saw in Q2 last year, when over 630 tonnes of the yellow metal were demanded.

Counterintuitive though it may seem, I actually see this as a bullish sign for the precious metal market going forward, for at a true market bottom, it is typical to see complete apathy and dis-interest in an asset class, rather than the record levels of buying we saw in 2013.

The fact that long term investors in gold aren’t picking up more metal today (perhaps fearing one last major sell off), and that it’s very hard if not impossible to attract new investors to the market is a good sign from a contrarian perspective.

When everyone is clamouring to buy gold, you can bet prices will be substantially higher than they are today. That’s the time you want to think about selling, or at least lightening up your positions.

That time is NOT now.

2. Futures Positioning

During the epic sell off in gold and silver last year, short futures positioning (those betting on price declines in these markets), exploded higher, perhaps best summarised by the image below, which was captured using data heading into June 2013.

Goldshorts

Source: Zerohedge - article viewable here

As you can see, every man and his dog was betting on gold prices falling at the time, and this kind of behaviour was seen at various times later on in 2013 and early 2014.

Today though, the picture has changed, and the total number of open positions in US gold futures recently hit a five year low. This is not necessarily surprising, as the market has largely been range trading either side of USD $1300oz for some time now

Bottom line for investors is that whilst last year the activity in the futures market was a big contributor to price declines, things are on a much more even footing today.

3. ETF Flows

One of the major catalysts to the gold price correction of 2013 was the savage dumping of gold ETF holdings, which saw some 880 tonnes of physical precious metals divested from the market, according the World Gold Council.

These outflows were particularly concentrated in Q2 of 2013, (when gold corrected from the USD $1500 to USD $1200oz mark), with over 400 tonnes of metal coming out of the ETFs in that 3 month period alone.

By Q1 of 2014 though, this exodus had largely halted, with flows essentially stable, whilst some ETF’s have actually seen inflows in the last couple of months, including the flagship GLD ETF, which looks to have added 20 tonnes since the middle of May 2014, and how holds just shy of 800 tonnes of gold.

You can see the epic outflows from GLD in 2013, and the relative stabilisation of holdings in the past few months on this chart below.

GLD

Source: GLD historical data archive. Chart created by ABC Bullion

Bottom Line for investors is that all the froth and short-term money that chased precious metals from 2010 to 2011 has fled, chasing higher stock prices.

Those sorts of wash outs are much needed from time to time in any secular bull market, as the remaining investors in GLD and other ETFs are likely longer-term holders who are more than likely wanting to maintain a gold position for many years.

It’s a good base to build from.

4. Central Banks

Central banks only turned net buyers of gold a few years back, marking a major structural shift in the precious metal bull market. By 2012 they were purchasing over 500 tonnes of the yellow metal a year, a number that eased back to just over 400 tonnes the following year.

According to the World Gold Council, in Q1 of 2014, central banks picked up 122.4 tonnes of gold. We expect that across the course of 2014, central banks will buy between 400 and 500 tonnes a year of gold again, and continue this pace of purchases for the foreseeable future.

The bottom line for investors is that central banks, whilst not dictating prices in the short-term, will continue to provide a supportive tailwind for the precious metal market for many years to come.

5. The Economic Outlook

The purpose of this missive is not to delve into global macroeconomic in any great detail, but suffice to say, we’ve still got huge problems to deal with in this ‘post GFC’ era.

Around the world we continue to see low to almost non-existent economic growth, high levels of unemployment (and especially underemployment), negative real wage growth, and extreme asset price inflation.

This is both in spite of as well as due too this era of interest rate suppression, central bank debt monetisation and unprecedented deficits at the sovereign level.

I wish we we’re out of the woods in an economic sense, but the objective reality is that we are not. Indeed, as Mike Mangan of 2MG Asset Management stated (emphasis mine) 

“Meteorologists (and insurers) speak of the 1 in a 100 year flood. But what is happening in western economies (and Japan) is not even close to a 1 in a 100 year event. It has not happened in centuries and I would argue human civilisation hasn’t experienced the sort of monetary conditions we now bear witness to, since the Bronze Age. How and when it all ends, no honest person knows. But I strongly suspect that when it ends, it will end badly.”

The bottom line to all of this is that we have some very tough times coming our way, and safe haven assets are likely to come into favour as financial markets reprice an economic reality they are to date blissfully ignoring.

Whether that repricing takes place via a huge nominal fall in asset values, an even more deleterious fall in the value of the currencies said assets are denominated in, or some combination of the two remains to be seen, but rest assured it will happen.

If you want your portfolio to have history, common sense and basic mathematics on your side, maintain your core allocations to physical gold and silver, and for those of you who are yet to purchase any, now is as good a time as any to start averaging in.

A few years from now, you'll be very happy with the decision, of that i'm certain.

Until next time

Disclaimer

This publication is for education purposes only and should not be considered either general of personal advice. It does not consider any particular person’s investment objectives, financial situation or needs. Accordingly, no recommendation (expressed or implied) or other information contained in this report should be acted upon without the appropriateness of that information having regard to those factors. You should assess whether or not the information contained herein is appropriate to your individual financial circumstances and goals before making an investment decision, or seek the help the of a licensed financial adviser. Performance is historical, performance may vary, past performance is not necessarily indicative of future performance.

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