Gold – the perfect storm

If one had to wander through any high street in Malta these days, one could not fail to notice the conspicuous signs put up by jewellery traders saying: ‘We buy your gold’, ‘Best prices for your gold’... whether in Valletta, Sliema, Ħamrun, Birkirkara, these signs are there for all to see.

Even radio stations seem to have caught this gold bug… so what is really happening here? Is all this fever due to a lack of supply? Or is the gold price on the international markets going to record highs and retailers are taking the opportunity of buying gold locally at a relatively high but cheaper price than the open market. Very probable. But why has gold – that old unfashionable, store of value – now taken a new and fresh shine of its own?

Ever since President Nixon decided in the 1970s to take the dollar off the gold standard where one troy ounce of gold was pegged at $35, the price of the metal was let loose and within a few years had zoomed to $851 per ounce. This meteoric rise was fuelled largely by inflationary fears, spurred on by bubbles in the oil price and real estate values. The bubble burst in January 1981 and for the next 20 years, gold did nothing but unwind the high levels achieved. Many investors were caught out: First by not taking part in the great surge and then getting in on the way down.

But what has changed now to allow gold to regain that old lustre and making it such an attraction to be seriously considered by many as an alternative form of investment?

“Fear, Mr Bond, takes gold out of circulation and hoards it against the evil day” so 007 learns from a Bank of England official (Goldfinger, 1959). How true and how still valid in these times of financial stress.

Just take a close look at the financial world and the developments over the past three years. Institutions such as Bear Stearns & Lehman Brothers collapsed or needed saving. The chaos that followed pushed other household banking groups (Lloyds TSB, Royal bank of Scotland National Westminster Bank) in the UK, (Goldman Sacks, Bank of America, American Insurance Group in the US) to the brink, forcing governments to invest billions in taxpayers’ money. Yet all agree that without such a bail-out, expensive though it was, the western world would have been entangled in an even more dramatic financial tragedy. The black holes of these institutions were filled via government printing presses going into overdrive.

Inevitably recession set in. This time though, the banks were too sick to assist in providing finance to fund the return to growth so desperately needed. Nor did they want to take on any more risks. Instead they withdrew lines of credit, reducing the amount of overall lending.

Like the flu, this financial epidemic spread through western trading countries and apart from the US and the UK, it involved most of Europe, especially Ireland, Greece, Portugal and maybe Spain, with the result that the two major currencies of the world were caught up. No longer was it which of the two main currencies was the best but which was the least bad.

In this scenario the long-term fundamentals for gold could not be better. With massive deficit spending, uncertainty not only focussed on the banking system, but spread through to countries too. In times like this, it is no surprise that gold came back in fashion as an alternative investment vehicle. Bail-outs now focused on those countries that were themselves bailing out their banks 18 months earlier. Interestingly, it is China or Japan coming to the rescue, and as the sun sets in the west, the financial sun rises in the east to expose the financial prowess of that part of the world.

Meanwhile investors are looking for a safe haven. The recent financial crisis has shown the failures of currencies, banks and governments. It is not surprising therefore that having nowhere else to hide they opt for gold.

Demand from investors is also being supplemented by demand particularly from China, India and the Far East as standards of living rise and gold, a status symbol in these countries, becomes more desirable.

Even the central banks made an impressive turnaround over the past 12 months. From being net sellers over many decades, they became net buyers of gold as the metal first surged to over $1,400 a troy ounce. World Bank president Robert Zoelkick is reported by the FT of November 9 to have said: “leading economies should look at a modified global gold standard to guide currency movements”.

Recent consolidation suggests that this asset class is pausing for breath. Nothing goes up in a straight line in this industry. Periods of profit-taking and consolidation are expected in the short term. How long this will last and how deep it will be, only God can foretell but the signs are that, over time, the gold’s sun will continue to rise, supported by the east.

This article is the objective and independent opinion of the author. The information contained in the article is based on public information. Curmi and Partners Ltd is a member of the Malta Stock Exchange, and is licensed by the MFSA to conduct investment services business.

www.curmiandpartners.com

Mr Curmi is a director of Curmi & Partners.