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Ronald Stoeferle

Ronald Stoeferle

Ronald is a metals analyst at Erste Group. Erste Group is the leading financial provider in the Eastern EU. More than 50,000 employees serve 17.4…

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Gold Experiencing a Renaissance as an Investment Class

The (financial) world is at the moment long in questions but short in answers. We believe that gold is one of the right answers in times of chronic uncertainty. It is said that “trust is a delicate flower; once destroyed, it will not return easily”  . We believe that the trust lost in the past years will not be regained any time soon, and that the situation will actually still get worse. The Eurozone is going through a breaking test, and the US dollar is gradually losing its status as the leading global currency.

The global expansion of monetary supply should continue to provide gold investments with a positive environment. The reaction to the current crisis is already feeding into the next crisis. Trying to resolve a crisis with the very same instruments that caused it (i.e. an expansive monetary policy) would seem to be clutching at straws. The driving forces of wealth are savings and investments, not consumption and debt. The weak US dollar is a logical consequence of the quantitative loosening, which from our point of view is just a euphemism for printing money.

Given that the majority of debt has neither been written off nor paid off but simply transferred, the problem of excessive debt is still waiting to be resolved. There has been no deleveraging, only an adjustment of booking entries from the private to the public sector. The quantitative easing has left monetary stability short on credibility, and it will be very difficult to remedy this situation. In this fragile environment gold will continue to thrive.

Total consumer credit outstanding vs. US gold reserves @ market value

Total consumer credit outstanding vs. US gold reserves
Sources: Fed St. Louis, Datastream, Erste Group Research

A wrong diagnosis of the cause leads to wrong solutions. The systemic issue is not the lack of tax revenue, but excessive spending. Further tax hikes cannot consolidate the public finances on a sustainable basis. Only structural reforms on spending can achieve that. According to Schlesinger , saving is tantamount to holding back on consumption in the present in order to be able to consume more in the future. The opposite is true for credit, where today’s benefit is bought with tomorrow’s shortcoming. However, this disadvantage seems to be in general disregard, being passed on to future generations. Although we are faced with the largest public debt in times of peace ever, a comprehensive consolidation of public debt is apparently not up for discussion. The necessary, deep cuts are being postponed, and the policy of “muddling through” continues. A painless therapy does not seem to exist. We believe that gold is an effective medicine.

Both fear trade and love trade are the driving factors of this bull market. The fear component is driven by the negative real interest rates, the excessive government debt, and the rising fear of a collapse of the system. This component is currently regarded as the only reason for the gold bull market. However, this perspective disregards China and India, which are the driving forces on the demand side. The high traditional gold affinity and the rising wealth will support demand in the long run. By 2020 emerging markets will generate 50% of global GDP, up from 19% in 2000. The majority of the emerging countries are significantly keener on gold than the industrial nations are.

“Most great primary bull markets last longer and carry farther than the majority of investors (even the bulls) expect” Richard Russell

Gold has been ridding itself of its reputation as a “barbarous relic”, emphasized in the 1980s and 1990s, and will ultimately turn into an own investment class again. The paradigm shift definitely has psychological reasons. The unshakeable myths and misunderstandings (gold does not pay interest, the purchase of physical gold is expensive, gold is speculative and volatile…) are currently subject to demystification and reassessment. Given that after the bear market that lasted 20 years many such arguments, defamations, and convictions ended up sticking in people’s minds, achieving a change of mind is tedious and time-consuming. But the same (alleged) killer arguments are still being brought forward, and even Ben Bernanke is “confused” about the rising gold price and does not understand it .

The fact that not many market participants actively participated in the last high of the gold price in the 1970s is a positive aspect. This is probably also why the majority of investors still doubt the sustainability and justification of the bull markets although we are in its tenth year. In the 1970s it was an unwritten law to invest at least a fifth of one’s portfolio in gold.

“I prophesy that in 1950 every Treasury in the world will be talking about my ideas, and by that time, of course, the problems will be quite different, and my ideas will be not only obsolete but dangerous.” John Maynard Keynes

Gold, as antagonist of uncovered paper currencies, remains an excellent hedge against worst-case scenarios. Low real interest rates and high counterparty risk provide the perfect environment for gold. Both are clearly the case at the moment, and we expect this scenario to last. At the current real interest rates, gold is an obvious alternative to short-term government bonds, current accounts, or time deposits. After many years of a chronic low-interest-rate policy, we do not believe that interest rates, along the lines of Paul Volcker’s, would be possible without the system collapsing. Therefore this time the gold bull market should end for different reasons than at the beginning of the 1980s.

Average annual performance of gold at varying real interest rates

Average annual performance of gold at varying real interest rates  
Sources: Deutsche Bank, Erste Group Research, Datastream

We believe that the saving efforts of the US government constitute lip service of the purest water, given the imminent presidential elections in 2012. Due to the elections and the tepid economic growth a new edition of the Quantitative Easing scheme should not be ruled out (after an “observation period”). In order to deal with the current difficulties in the financial sector but also in the real economy the Fed and the ECB will be forced to keep the interest rates at (historically) extremely low levels. Negative real interest rates and the gold price have traditionally had a very strong correlation. Therefore we believe that gold represents the essential basis of a portfolio, especially in the current fragile environment.

“If you don't trust gold, do you trust the logic of taking a pine tree, worth $4,000-$5,000, cutting it up, turning it into pulp, putting some ink on it and then calling it one billion dollars?" Kenneth J. Gerbino

Further pros:

- The global reflating policy will continue
- Global USD reserves amount to about USD 5 trillion; the need for diversification is enormous
- De facto zero-interest rate policy in USA, Japan, and Europe
- The central banks have changed their attitude towards gold
- Investment demand will remain high; Wall Street has discovered gold
- Commodity cycle has a long way ahead
- Geopolitical environment still fragile
- Chinese central bank wants to increase its gold reserves



- Gold is often held as ultimate reserve and money of last resort and is thus liquidated in extreme financial situations
- De-hedging has practically come to an end
- Futures positioning (CoT) relatively neutral; open interest indicates negative divergence
- Greece, Portugal, and Italy hold relatively sizeable reserves and may (have to) sell them
- A slump in economic growth would definitely have a negative impact on the gold price
- Double dipping: recessions are generally not a good environment for the gold price (N.B. it is the measures that are taken during the recession that stimulate the gold price later on)

According to Carl Menger’s theory of subjective value, the value of a good is derived from the marginal utility with regard to the set goal. This means that the value of a good or a service is therefore no objective value, but the result of a subjective process of valuation (“Value does not exist outside the consciousness of men“). Therefore the question of price targets is difficult to answer. But given the fact that the majority of debt has neither been written off nor paid off but simply transferred, the problem of excessive debt is still waiting to be resolved. As far as the sentiment is concerned, we definitely do not see any signs of euphoria. Scepticism, fear, and panic never line the final stretch of a bull market. Therefore we believe that our long-term price target of USD 2,300/ounce, as formulated a few years ago, could therefore come out on the conservative side.

In the short term, the seasonality of the gold price seems to suggest the continuation of the sideways movement, followed by the strongest seasonal period in September. In the long run we could see a future where rather than asking for the price of gold, people will much more often ask for the price in gold. Our next 12M target is USD 2,000. We believe that the parabolic trend phase is still ahead of us. This phase should take the gold price to our long-term target of at least USD 2,300 at the end of the cycle.

By. Ronald Stoeferle of Erste Group

Erste Group is the leading financial provider in the Eastern EU. More than 50,000 employees serve 17.4 million clients in 3,200 branches in 8 countries (Austria, Czech Republic, Slovakia, Romania, Hungary, Croatia, Serbia, Ukraine). As of 31 December 2010 Erste Group has reached EUR 205.9 billion in total assets, a net profit of EUR 1,015.4 million and cost-income-ratio of 48.9%.

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  • Anonymous on July 05 2011 said:
    :lol: Gold prices are climbing up. The bubble will eventually burst but it has proved hard to project when.
  • Anonymous on July 09 2011 said:
    Yes Mr.Thomas..traders need to think in a broader perspective...GOLD bubble will eventually burst in near term or very short term... Then the analysts come out with one or the other theory tht why gold collapsed !! but it will be too late !!

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