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Fundamental and Technical
update for gold:
Confidence in Fiat
Currencies
The
fundamentals for gold relates to the confidence level in paper currencies.
When demand outstrips supply of dollars, the value of dollars goes up. The
supply of dollars has been rising steadily at an average of 10% annually from
less than $1 trillion in 1980 to over $12 trillion today. The fundamentals
for gold thus have much to do with the lessening demand for dollars.
When
dollar denominated assets lose value, people ditch dollars. As we have
meticulously documented since August (see here), the subprime
mess has been the dollar's worst disaster in the last three decades. The subprime meltdown is now causing
supposedly high-quality government sponsored debts to be selling at 70 cents
on the dollar (Mad Cow contagion as we call it). With the subprime
mess as an extensively featured headline, and global central banks coming
together to combat mortgage liquidity crises by printing their own currencies
to support US mortgage debts prices (interestingly lead by the ECB, not the Fed!),
the dollar crisis relative to other fiat currencies may have reached a
climax. This means the fall of US dollar index may be suspended, at least
temporarily.
Last
month, the Canadian dollar at one point traded at a 10% premium to the
dollar, highlighting that other fiat currencies have been the main
beneficiary from the current flight from the dollar. However we'd like to
point out the ECB-led charge in printing Euros, the slowing Canadian economy,
the housing/mortgage problem in the UK, and a widening trade deficit in
Australia as cases where the outlook for other countries respective
currencies are mixed at best.
With
gold already more than having tripled from its low of $250 in dollar terms,
the fundamental driver for gold in 2008 will likely come from the flight from
other fiat currencies besides the dollar. This means that gold and the US
dollar index may very well rise in tandem. Technically, the dollar index is
rebounding and gold is on the verge of breaking out from the Euro, Canadian,
and Australian dollars.
Gold in Euro
Gold in Canadian Dollars
Gold in Australian Dollars
Comparative Value
Gold
has lagged behind oil and base metals such as copper since the commodities
bull started in 2001. Theories for gold's shortcomings are many. Ranging from
gold's antiquated status to the famous manipulation theory.
Gold's
antiquated role is rubbish. While we believe manipulation exists, as with
just about every market, its impact is very limited and dramatically hyped
up.
We
can only speculate on gold's somewhat lackluster
performance to date, mainly
China keeping prices
at bay. Without China,
most consumer goods from computers to blankets to shoes would be selling at
least at 30% higher prices. However with revaluation of RMB and already USD
$1.2 trillion being held by China,
we will see Chinese goods steadily rise in prices in dollar terms.
Global
investments. There are lots more investment opportunities from real estate in
Thailand to IPO's in Bulgaria to
soak up excess dollars. However, with most emerging equity and real estate
markets already doubling and tripling, the easy money has been made.
Investment
Psychology: After two decades of being taught
that inflation is dead, the new generation of money managers are only now
grasping that inflation is alive and well. It was only five years ago that
the public was fretting about Japanese style deflation. The fed talked well
of deflation while oil zoomed from $20 to nearly $100. However, now can see
that $100 oil means inflation.
Those
3 reasons for gold's trailing performance vs. other commodities are
vanishing. Technically we can see gold is rebounding against oil and
particularly copper.
Gold over Oil
Gold over Copper
Fundamental and Technical
update for gold stocks:
While
the XAU gold stock index has raced from 50 to 160 since 2001, it has failed
to live up to the expectation to most investors, many of whom are looking for
10 baggers 70's style. The XAU is now only trading slightly higher than it
was in April of 2006 when Gold was $700. Considering gold was $850 while oil
was $40 in 1980, it is understandable that gold miners disappoint today since
gold has yet to outperform oil and other commodities. The fundamentals for
gold stocks thus look grim factoring into today's gold price, high energy,
and labor costs. Indeed many gold explorers with
defined resources declined so much in price that they are selling as if gold
is back to $300.
As
the CEO of GoldCorp Ian Telfer
puts it, gold miners are a special investment class as people buy them for
the optionality on gold, not necessarily near-term
earnings. Valuing gold companies based on today's gold and oil prices is akin
to driving using only the rear view mirror. Besides, many project valuations
are based on a gold price substantially lower than today's gold price. Those
bearish sentiments are not typical of a top in gold and gold stocks. When
projects and companies are being valued at a premium gold price to spot, then
we know the peak is in place. There is a simple metric in measuring such
premium: the XAU over Gold ratio. When the ratio is high, XAU is selling at a
premium to Gold, and when the ratio is low, this means gold and gold stocks
are both selling near the bottom. As you can see currently the ratio sits
very close to bottom.
XAU over Gold chart since 2001. Notice it trades at
a well defined channel.
XAU chart: Black Circle (top), Purple Circle (Bottom) corresponds to
the peak and bottom of XAU:Gold
chart.
Conclusion:
With
the collapse of the US
mortgage debt markets, gold's fundamentals have never been more bullish. The
second bull phase will start as gold breaks out against all other fiat
currencies. Comparatively gold has lagged other commodities this decade so
far, but we believe that the factors driving such underperformance are
reversing in gold's favor. Gold stocks have slumped
as energy and labor costs outpaced gold's rise.
Emotions and the sentiments pendulum have swung from one extreme to the
other, but we expect such pessimism in gold stocks today to turn around to
eventual euphoria in due time. Fundamentally and technically gold stocks are
firmly in a long term uptrend, staying put in a bull market while some
impatient gold bugs ditch their positions may just be the best prescription
for the temporary winter blues. For those of you who received cash Christmas
presents, you can visit www.goldmau.com
for our report on five all-star cash-rich resource junior companies that we
like and own ourselves.
Happy
Holidays from Mau Capital,
By :
John Lee, CFA
Goldmau.com
John Lee is a portfolio manager at
Mau Capital Management. He is a
CFA charter holder and has degrees in Economics and Engineering from Rice University.
He previously studied under Mr. James Turk, a renowned authority
on the gold market, and is specialized in investing in junior gold and
resource companies. Mr. Lee's articles are frequently cited at major resource
websites and a esteemed speaker at several major
resource conferences.
Please visit www.GoldMau for instant market alerts and stock updates.
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