Is time being called on gold’s bull run?
By John Dizard
Published: September 13 2009 09:50 | Last updated: September 13 2009 09:50
The gold world knows a bell was rung last week by mining group Barrick Gold’s announcement that it will unwind the rest of its hedge book (ie gold sold for future delivery, which partially offsets any price declines). The question is whether the bell signified the beginning of the end for the bull market, or its breakthrough to higher levels.
For its part, Barrick, in its press release announcing the massive de-hedging, made all the right bullish noises about “an increasingly positive outlook on the gold price”, which suggests that hedging would be a waste of money, and “continuing robust gold supply/demand fundamentals”.
For years, gold bulls and conspiracy theorists had excoriated Barrick’s forward gold sales as a lid on the metal’s price and a deviation from the true faith. And, indeed, as gold’s price rises, hedge books cost money.
As of September 7, the company discloses, its gold sales contracts have a negative mark to market value of $5.6bn (£3.4bn, €3.8bn). If the contracts stayed on the books and the gold price went higher, then those mark to market losses would only increase. It would appear that Barrick has surrendered to the perma-bulls’ argument.
However, that is not necessarily the whole story. While no doubt the company subscribes to the reasoning in the press releases, there are a few more moving parts here, possibly not mentioned in the release so as to conserve space and preserve simplicity. The Barrick hedge unwind may be partly a delayed consequence of the credit crisis.
Over-the-counter swaps, such as those generated by the company’s gold sales contracts, were a pretty profitable business for banks in the years just gone by. The OTC swaps have a way of ballooning balance sheets, with huge obligations offset by huge assets. Particularly given the nice fees on this bell and that whistle, that wasn’t a problem in a world where risk-weighting was a matter for the banks’ own judgment. In this new world, where OTC swaps are officially a Bad Thing, and where balance sheet shrinkage is the order of the day, the whole business is less attractive. Not that Barrick couldn’t continue to finance the forward book, but it could well have been on notice that the price of doing so would be much higher.
Also, there was a simultaneous announcement by Barrick that it would be selling 25 per cent of the annual production of its Pascua-Lama silver mine, which opens in 2012, for a total of $625m to Silver Wheaton Corp, with $212m of that paid upfront. The price will be the lesser of market or $3.90, indexed for inflation. On the surface, selling silver at such a huge discount to the present market price of over $16 would appear to contradict the company’s announced bullishness on precious metals.
Almost as if some banker wanted that cash back right now, never mind the future. I think the company may not be giving itself full, and well deserved, public credit for its responsiveness to market conditions.
The Barrick hedge unwind also triggered gold bulls’ unpleasant memories of the last decade. Back in January 1996, Barrick also announced a hedge buy-back, coincidentally also for 3m ounces of metal.
Momentarily hailed by the anti-hedging goldbug community, the announcement was followed by the gold price rising for two days to $415, then beginning a fall to $253 by September of 1999.
The mining companies have been de-hedging their gold book for some time now. At the beginning of the decade the miners had, through one means or another, short positions of about 3,000 tonnes. Now that total is less than 1,000 tonnes.
The gold, paper and physical, needed for that unwinding accounted for a significant fraction of total “investment” demand in recent years. When Barrick, whose recent and coming buy-backs may be followed by AngloGold, is finished, the biggest prospective channel for investment demand will be the gold ETFs.
However, from the end of the second quarter, Barrick appears to the trading community to have bought 75 tonnes of gold as part of the de-hedging. But the SPDR ETF shrank by 43 tonnes to accommodate redemptions. So the ETFs would have to turn around their own trend.
Still, the chartists will confirm that we are still, technically, in a gold bull market. Martin Pring of Pring Research says: “Gold is still above its 12-month moving average, and there is not quite the frenzy of public interest and buying you would expect to see at a top. Nevertheless, I am a bit suspicious (of the bull case), since the dollar isn’t breaking down, and usually the dollar and gold go in opposite directions.”
Bulls can also point to all the government borrowing, political uncertainty, increases in narrow money supply, and so on.
And yet . . . there are even some gold superbears out there, including some with credible records of having called the present bull market.
For example, Charles Nenner of Amsterdam, whose eponymous research company calls for the gold bull market to end in just a few months. “Don’t be too crazy about gold,” he says. “Gold will hold up until the middle of February, then, because the long-term and short-term cycle will move together, you will see the next blow-up in an asset market.”
Mr Nenner, who also believes that the interest rate cycle is about to turn up from the current low levels, says: “When money becomes expensive, with higher rates, people don’t buy gold. That comes together with low inflation. Real inflation only comes with a wage spiral, and we don’t see that now”.
He is looking at long-term trends. The gold and gold-related securities dealers have a somewhat shorter horizon. As one of them says: “The big reason gold could come down and stay down is if Obama pulls it off. If he succeeds because he compromises, that could revive faith in the dollar and the US. If the dollar performs better, then there are much better ways of hedging risk than gold.”
johndizard@hotmail.com
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