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We
have been looking at global trends and the debt markets very carefully this
year so as to remain prudent about our views on the direction of gold and the
Australian gold sector. This may seem like a long bow to draw however
the thigh bone is connected to the knee bone when it comes to global markets
and capital flows.
We
specialize on coverage of gold and the Aussie gold stocks that make up the
Australian gold sector which is one of the important gold share markets due
to our high level of gold production and another key reason I will get to
shortly. Another important part of our work is on the currencies due to
the importance of the AUD to our gold sector and also for our international
clients. We have even taken on a leading Fx broker as an advertiser due
to the importance of Fx for international capital flows at this point in
history.
Our
thesis for this year has been one that includes continued trends on global
markets on the back of stimulus capital along with increasing sovereign debt
trouble and contagion which will (and has) produce fear. We have seen
this as a positive environment for gold along with extreme volatility and
distortions in the currencies and see no reason to change that view at this
stage.
Gold
is breaking out in all currencies and I forecasted a rise to the US$1180 area
a week or so back. It has not quite made that target and may not,
perhaps it will overshoot. After hitting record highs in Euro terms the
gold price consolidation of the past 4.5 months in USD terms appears to be
drawing to an end with only a few weeks left before we see lift off.
I am expecting one last dip in the USD POG (price of gold) which will be
short lived and reasonably shallow. The US$1100 level is not out of the
question on this hypothesised pull back.
Investors
that watch share behaviour Down Under lately would have noticed accumulation
patterns along with strong activity on many of the stocks and some important
take over activity. This is exactly the sort of behaviour that precedes
a strong rally. As you can see above there is major scope for upside
just to recover pre 2008 crash levels. In fact we could see a broad
doubling of the Emerging Producers Index shown above.
Again
I thank Nick Laird at Sharelynx for this index and chart of which we have 3
at GoldOz. We can easily double from the current level of 91 if we are
merely to get back to the highs of 2006 when gold hit US$730 per ounce and
that index probed the 200 level. Remember that costs soared after that
peak effecting the profitability of all gold producers which goes some way to
explain this anomaly. On my count however we could see US$1500 this
year and depending on the AUD movements these stocks can easily expect to be
experiencing margins similar to or better that the 2006 market era.
This
consolidation activity can and has lasted for months at times as seen ahead
of strong rallies over the past several years. Reporting season is in
full swing here so I am increasingly focused on scanning through and
condensing these quarterly reports for my Membership base. I will
release a series of articles more devoted to gold stocks in the near future
when this process is complete. This process will also enable me
to finally select the educational report companies for release ahead of any
potential upside.
The
past few days has seen some sharp liquidation ahead of a possible Au
correction and perhaps due to some unwinding of the AUD carry trade which is
mostly in cash and treasuries here in Australia. This intensifies the
opportunity Down Under as the gold stocks are already excellent value.
Some evidence is shown in the AUD down days and topping pattern on the chart
below.
The
daily chart of the AUD: USD ratio shows a long high consolidation period and
some divergent patterns. Over on the left I have marked the sell signal
that preceded a fall from 94c to 87.5c late last year. On the right I
have marked a similar pattern, not quite as strong, however the sharp down
days and rapidly falling RSI smack of more pressure on selling activity than
buying in my opinion. The risk of losing profits from carry trade
activity on the Fx move are increasing.
Sovereign
Debt, the Carry Trade and Gold
My
thanks go to Sprott Asset Management this week for their excellent article on
Greece and the impact of this crisis on the Greek banks. It illustrates
what I have been saying for months that the problem is all about debt and is
not a quick fix scenario. An important quote from their article:
“We envision Greek depositors asking themselves how a government that
can’t raise enough money to stay solvent can then turn around and
guarantee their bank deposits? It’s a fair question to
ask.” They also had this to say:
“While
there were some similarities in our rankings (for example, our model ascribed
AAA ratings to the local currency debt of Australia, Canada, Finland, Sweden,
New Zealand which matched the ratings given by S&P), we found some
glaring inconsistencies in the rating results for less fiscally prudent
countries that left us scratching our heads.”
I
want to draw your attention to Australia from this comment because Sprott AM
have concluded that Australia is low risk due to low levels of sovereign
debt. Capital flows will increasingly favour countries with lower
sovereign risk as the global sovereign debt crisis gradually deepens.
More attention will have to be paid to this risk.
This
is the second reason mentioned above for believing that Australia will become
an important gold market. Capital flows to area of less risk
particularly when risk weighting increases in importance. This is
important for the Australian gold sector moving forward. When you
combine this fact with the growing globalization and standardization of
financial markets, the web and ease of participating in the emerging markets
(and Australia) we will see standardization of gold stock values.
Another long bow to draw I don’t think so but form your own opinion.
When
gold stocks become the flavour or the month (or year) due to rising gold
prices then guess what?? A proportion of these risk adverse capital
flows will head towards the Aussie gold stock sector. This is not an
unrealistic assumption based on our current modelling.
Australia
will remain an attractive place to live and invest as time and the new world
investment climate develops further. In the short term a fall in the
AUD and correction in the Aussie Gold Sector would present as an excellent
opportunity for foreign buyers to get set in the Aussie gold sector if they
are not invested already.
The
low lying fruit in the carry trade is now gone as the differential between
Central Bank interest rates have not kept pace with currency movements.
Therefore, short term the unwinding of the carry trade is highly likely and
would cause a fall in the AUD giving new capital in ideal entry point for
deployment in Australia. The AUD is a comparatively small market so
when capital flows do reverse the move can be swift and dramatic.
Longer
term we revert to the new risk weightings away from high sovereign debt
towards emerging economies and the commodity supply countries like Canada and
Australia. On the unwinding of the carry trade we will get the prime
investment climate for Australian gold stocks of the entire bull market to
date. This is an exciting event as the fundamentals are tipping this
way.
Perhaps
this is why Sprott and other large funds have been accumulating here?
The upside potential for our gold sector is excellent as they merely complete
the catch up process after the battering they received in the 2008
crash. There may be one important issue holding up some capital now so
let’s take a look at the Ken Henry tax report for a minute.
Henry
Tax Review
Now
to the threat of the new resources tax (Dr Ken Henry Report) to be revealed
on May 2nd. Firstly the Federal Government will have to issue a
response to the report and may or may not adopt the recommendations.
There is over 100 taxes here in Australia however only 10 of them reap 90% of
the revenue so the Government is quite sensibly trying to simplify the
system. If only the world was simple though there are some
issues.
Please
do not get me wrong and suggest that I support anything but assistance for an
industry that is performing well and has potential to provide more jobs for
Australians. The Federal Budget is released on May 11th and
may include some of the recommendations however it is likely that the bulk of
them would be implemented slowly to avoid shock to the industry. The
last major tax review in Australia saw some items take up to 20 years to
deliver.
The
consensus is that the form the tax would take would be for it to kick in only
after project capital is recovered and “excessive profits” are
being earned. This tax is meant to replace the State Government taxes
and this would make sense and be a benefit to companies as it would allow for
less profitable and start up operations to see some relief from tax.
The
great difficulty is that the plan requires the cooperation of WA and
Queensland Governments which preside over the very mines that produce over
70% of the nation’s mineral wealth. The States have just been
locked into historic negotiations over GST share and our health system so feathers
are already ruffled a little. WA is known to be strongly opposed to
giving up its own tax revenue and therefore opposes the Henry plan before it
is even tabled.
If
the Federal Government goes ahead we will see confrontation and if they
decide to leave the current taxes in place and impose a small tax on top for
these “super profits” then the goal of simplification will
fail. There is no doubt the mining companies will complain loudly but
will it make any difference really?
There
are significant benefits derived from operating in a politically stable
country like Australia with its many advantages over less developed
countries. Infrastructure, educated workforce, climate, sound banking
system, low sovereign debt and proximity to the world’s growth engine
(Asia) offset any potential difficulties provided the Government get the
structure and implementation of this new proposed reform reasonably
fair. So we not only have to understand the Henry report is a set of
recommendations we also have to see how it all pans out.
Good
trading / investing.
Regards,
Neil Charnock
Editor,
Goldoz.com.au
REGISTERED
ADVISOR – WHO THE ADVICE COMES FROM IN THE GOLDOZ NEWSLETTER:
Colin
Emery is currently a Branch Manger and Senior Client Adviser of a Stock Broking
Company in Queensland Australia. Prior to his work in Share broking he spent
nearly 20 years in Senior Management and Trading positions in Treasuries for
major International Banks such as Bank Of America, Banque Indosuez, Barclays
Bank, Bank Of Tokyo and Deutsche Bank AG. He spent a number of years as a
Senior trader in New York, London, Singapore, Tokyo and Hong Kong with these
institutions. He also was Global Head of emerging energy, emission and
commodity products for the leading Energy and Commodities brokerage firm of
Prebon Yamane Ltd – Prebon Energy for four years before moving to
Cairns in 2003 to focus on the Stock market and Private consulting work. The
private consulting and advisory work currently undertaken is with companies
involved in Resources, Energy and Renewable Energy and Forestry.
Neil
Charnock is not a registered investment advisor. He is a private investor
who, in addition to his essay publication offerings, has now assembled a
highly experienced panel to assist in the presentation of various research
information services. The opinions and statements made in the above
publication are the result of extensive research and are believed to be
accurate and from reliable sources. The contents are my current opinion only,
further more conditions may cause my opinions to change without notice. The
insights herein published are made solely for international and educational
purposes. The contents in this publication are not to be construed as
solicitation or recommendation to be used for formulation of investment
decisions in any type of market whatsoever. WARNING share market investment
or speculation is a high risk activity. Investors enter such activity at
their own risk and must conduct their own due diligence to research and
verify all aspects of any investment decision, if necessary seeking competent
professional assistance.
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