Aug 31

Marc Faber on Gold & Debt

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The always cheerful gloomster Marc Faber speaks about gold investing…

PUBLISHER of the Gloom, Boom & Doom Report, Swiss-born and -educated Marc Faber’s distinct voice is a common sound on CNBC and Bloomberg TV when it comes to big-picture forecasting in investments.
Here, at his Hong Kong residence, Marc Faber speaks to Hard Assets Investor‘s managing editor Sumit Roy about debt, gold and stocks…
HardAssetsInvestor: What are your views on the stock market?
Marc Faber: Following the huge increase in stock prices we had since March 2009, when the S&P was at 666, a 20% correction would not surprise me at all. I don’t look at the 20% correction as a huge decline in stock prices. In Asia, we’ve had corrections in the order of 20% in many markets. We had a huge decline in bond prices in the US.
In July 2012, yields on the 10-year bond were at 1.43%; we’re now close to 2.9%. Yields have doubled. The longs have been hit quite hard. I don’t regard a 20% correction in stocks as a huge bear market.
HAI: So no more than 20 per cent?
Marc Faber: We have to assess stocks when we are there. We don’t know to what extent the Fed will continue bond purchases, increase bond purchases or even buy stocks. We’re dealing with markets today that are basically manipulated by the Federal Reserve and other central banks. That’s why any forecast is very tentative.
HAI: It’s been awfully quiet in Washington after a series of battles over the debt ceiling and the fiscal cliff in 2011 and 2012. Do you see any political risk lurking either in the US or elsewhere?
Marc Faber: It’s a fair assumption that the US government debt will continue to increase. And it’s also a fair assumption that the US and other central banks around the world will continue with the monetization of the debt.
To what extent there will be a battle in Congress between the Republicans and the Democrats over the debt ceiling and about spending cuts is anybody’s guess. But the facts are that the US government debt took 200 years to reach $1 trillion in 1980; we were at $5 trillion in 2000, and we’re now around $17 trillion. You can clearly see where the trend is.
And the deficit will actually start to increase shortly a) because of the increase in interest rates; and b) because more and more people are retiring, so the entitlement programs will increase. I do not see the debt in the US diminishing. The question is, Will it increase by $1 trillion annually or $2 trillion; who knows?
HAI: In light of all these issues, what’s your view on gold? Is the current rebound in prices sustainable?
Marc Faber: We have had a meaningful correction in gold. From $1921 in September 2011 to less than $1200 at the bottom is a fairly large correction. But in longer-term bull markets, these kinds of corrections do occur. We had a 40-50% correction in 1987 in equity markets. But the bull market lasted until the year 2000.
Looking at the fundamentals, looking at how debt will continue to increase and how central banks will continue their monetization not only in the US but on a worldwide scale, I assume the price of gold will trend higher. Most likely we’ve seen the lows below $1200.
HAI: Will gold revisit its highs?
Marc Faber: Eventually we will be over $1921. The question is, Will it be this year or in five years? That I don’t know. But as I have argued repeatedly, I think that part of your assets should be held in physical gold. I emphasize physical gold.
HAI: You don’t like the ETFs – the GLDs of the world?
Marc Faber: I don’t. There are a lot of question marks about the paper market. I would imagine that more and more money will flow into the physical metal.
HAI: Finally, what’s going on with China? Has the government been successful in the ongoing transition to slower growth?
Marc Faber: In my view, the economy in China is much weaker than it is generally perceived and the problems are larger than generally perceived. The stock market in China has been very weak since 2006 and has underperformed just about any other market over that period of time. In general, I would be very careful to invest now in emerging economies, especially under the condition that we have had declining trade and current account surpluses in most emerging economies.
In the last 20 years, we’ve grown in China by approximately 8-12% per year. Going forward, China will be lucky to grow at something like 5 to 7% per annum. There may be years when it only grows at 3 to 4%, or not at all.
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Aug 30

Gold Mining Writedowns: Why & What Now?

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Gold mining companies are suffering writedowns on the value of their projects…

For MANY PRIMARY gold mining producers, writes Jeff Clark, editor of Big Gold at Casey Research, the second quarter of 2013 was a breathtakingly bad quarter.
It wasn’t so much the massive drop in earnings many reported – those had been, for the most part, expected – but the so-called “impairment charges” announced, otherwise known as writedowns.
Impairment is the opposite of appreciation. That is, the reduction in quality, strength, amount, or value of an asset. “Impairment charges” means that a company reduces or “writes down” the value of the assets on its books.
The gold price averaged $1630.45 in Q1 this year, falling to $1413.64 in Q2. The downturn squeezed profit margins, obviously, but it did the greatest damage to the value of many mining company assets that are based on gold.
But what will happen to those same assets if the gold price is on the rise again? What does it mean for us as investors? I’ll answer these and more questions below.
First, here’s a look at the amount of writedowns the six largest primary gold mining producers announced last quarter.
The explanation the companies gave for these writedowns was essentially the same in every case: short- and long-term gold price assumptions that hadn’t panned out.
Total losses for just these six producers were $23.1 billion. That’s a lot of dough to send to money heaven, for a relatively small industry. Food for thought.
Here’s what you need to know as an investor in this sector…
How does an impairment charge occur?
In public companies, management must report a reasonable value of company assets to shareholders and the public. If labor or other production costs rise, they may have to reassess the value of the company’s assets.
In this case, the gold price – the product many of our companies sell – dropped 13.3% in just three months, and did not seem likely to rebound immediately. Of course, that changed the amount of earnings investors could expect from a gold mine. Companies had to revise the net present value of projects in development, or the book value of mines in production, with the new reality for gold in mind.
But isn’t the gold price always fluctuating?
Yes, but the accounting is (meant to be) conservative. The last thing any management team wants is to be forced to tell the market that its projections were wrong and profits are much less than anticipated – or worse, nonexistent. Shares would plummet, management would have a major credibility problem (perhaps a legal one as well), and heads would roll.
What companies are supposed to do is look out to the horizon and project the lowest (safest) reasonable price assumptions they can, for the foreseeable future. Some are better at it than others, and some mining companies that used too aggressive price assumptions in their economic studies ended up, in the worst-case scenario, abandoning projects.
On the other hand, it’s just as bad if management overreacts to temporary price swings. A long-term view should position the company so that short-term price fluctuations – up or down – don’t seriously affect the value of a project. In other words, they try to allow for normal volatility.
How do they know how much to write down?
If management believes prices have changed so much that it affects the value of company assets, they conduct a formal “impairment test.” If an asset doesn’t pass, the amount of the charge is the difference between the old book value and the recoverable value, or the fair market value for the asset at that point in time.
So the companies that had no write-downs are more conservative?
The better ones are – others may simply be refusing to face the fact that gold is still below the three-year trailing average that was typically used as a price assumption. A cautious gold company that, say, valued an asset assuming $1100 gold should not have needed to file an impairment charge last quarter (all other things being equal). Gold has averaged $1303.33 so far in Q3, well above the price that returns were projected from.
For example, major gold producers Yamana and Agnico-Eagle were able to avoid impairment charges last quarter. As the chart above shows, all producers currently rated a Best Buy in our Big Gold newsletter had no writedowns. As an owner of these stocks, I was glad to see this. It also confirmed that we’ve selected management teams that are both shrewd and conservative.
What happens when a write-down turns into a write-off?
While a write-down is a mere reduction in value, a write-off eliminates that value altogether. For some companies, a project may not just be less profitable, but completely uneconomic at lower gold prices. If total production costs were $1400 per ounce, for example, that project would have zero value at today’s prices. This sometimes happens with low-grade mines.
This is the reason so many projects have been suspended or moved to the back burner over the last few months – and rightly so. We believe gold will move back up and hit new highs, but that’s not the conservative stance corporate management should take, especially when deciding to invest billions of Dollars building a large new mine.
These projects can be revived when gold prices go up again, but they will need to be reevaluated when things change, particularly regulatory and cost factors.
What happens if the price of gold goes back up?
In the past, companies were stuck. Until very recently, impairment charges were a one-way street. Once you took the charge, you lived with it. But there are some new rules that permit the accounting to go both ways.
These new international rules were instituted in 2011 and haven’t yet been tested for higher values in the resource sector. But if the gold price recovers and there are strong reasons to believe it will stay there (something we see as highly likely), it’s possible we could see some of these impairments reversed. 
That’s what you might call a “write-up.”
Here’s an interesting consequence for speculators: Once a company has written down an asset, that loss no longer trickles down to the bottom line in the form of depreciation expense.
Suppose you have a mine written down to zero, because operations provide effectively zero return at lower prices, but the company keeps mining because management believes prices will go up, and mine closure would be both expensive and hard to reverse. Then prices do rise, and the mine starts making money hand over fist, with no depreciation to impact net income.
That’s why it’s so important to separate still-viable assets that are written down from those that really were based on foolish assumptions and are never likely to be profitable.
Should I sell my companies that reported writedowns?
Not necessarily. As I said above, it’s not the end of the world if a company is forced to write down an asset. The question is whether the company will be able to survive the current price environment and have a shot at better profits in the future.
To know when to hold, fold, or be bold, sign up for a three-month trial to Big Gold, with full money-back guarantee.
Even with gold’s steep correction, a handful of Best Buy companies in our portfolio had very impressive Q2 results – but despite their above-average performance, they are still severely undervalued. I expect them to do so well that I’ve added some of them to my own mother’s portfolio (and she only allows for the safest bets).
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Aug 29

The Ruins of Detroit

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Home to the future once more…

The 2,500 SEAT Eastown Theatre hosted The Who and The Kinks, writes John Phelan at the Cobden Centre.
The Cass Tech High School taught Diana Ross and John DeLorean. Michigan Central Station, almost 100 feet long, 230 feet wide, and graced with 14 grand marble pillars, once had Franklin Roosevelt, Charlie Chaplin, and Thomas Edison pass along its platforms.
Nowadays these buildings are just three of the 78,000 abandoned and blighted structures in Detroit. Reminders of a bygone golden age, the authorities can’t afford to demolish them.
The decline and fall of Detroit, which recently filed for bankruptcy, is a staggering tale. In 1950 Detroit was home to 1,849,568 people, hundreds of thousands of them working in the booming motor industry. In 1955 80% of the planet’s cars were made in America, 40% by Detroit-based General Motors alone. GM’s German subsidiary, Opel, was only a little smaller than the largest non-American car maker, Volkswagen. And Toyota only built 23,000 cars that year compared to GM’s 4 million. In the 1950s the Detroit area had the highest median income and highest rate of home ownership of any major American city.
But as they grew together, so they died together. Between 1955 and 2000 global car production increased by 273% but the US motor industry saw little of that action, increasing its output by just 39%. Even at home, despite a hastily erected wall of tariffs and quotas, US car companies lost market share; between 1970 and 2000 Japanese car companies’ share of sales in the US rose from less than 5% to 30%. In the same period the share of US car manufacturers fell from 86% to a little over 50%.
The reason was productivity. In 2005 the average Toyota worker produced 16% more cars than the average GM worker and a staggering 128% more than the average worker at Daimler/Chrysler. Toyota made a profit of $12.5 billion, GM a loss of $10.9 billion.
In part as a result of the demise of the motor industry, less than half of Detroit’s over 16s are now employed. And as the jobs disappeared so did the workforce. In 2010 the population was down to 713,777, a fall of 61% in 60 years.
But the city’s government was left with the spending commitments and liabilities it had incurred in the not-so-bad times. One half of Detroit’s $18 billion debt is made up of pension and healthcare spending commitments to city employees. The share of city revenues being spent on debt servicing, pensions, and retiree healthcare has risen from 30% in 2010 to 40% today. It is forecast to rise to 65% by 2017.
The city tried to fund these commitments with higher taxes. Detroit imposes a per capita tax burden on its residents 80% higher than neighbouring Dearborn even though its residents have a per capita income 33% lower. Detroit residents face the highest property tax rates of any similarly sized city in Michigan, but with 3 bed, all brick, colonial houses on the market for under $10,000 many don’t bother paying. Nearly a third of property tax owed in Detroit went uncollected in 2011.
So Detroit slashed spending, even on ‘core’ functions of government. 40% of streetlights don’t work and aren’t being repaired. Last winter just 10 to 14 of the city’s 36 ambulances were in service at any time, some with enough miles on the clock to have circled the planet 10 times. In February, Detroit fire fighters were told not to use hydraulic ladders unless there is an “immediate threat to life” because they hadn’t been inspected in years.
But even with this, spending commitments without the tax base necessary to fund them have caused Detroit to add $700 million to its debt in the last seven years and brought it to bankruptcy. This is a real American horror story.
Is the death of Detroit “just one of those things” as Paul Krugman wrote on Monday? Or are there lessons to be drawn for the rest of us?
The essential problem of Detroit, that for decades its leaders have been writing cheques their tax base can’t cash, is true now to varying degrees of all western governments facing ageing populations. As I wrote elsewhere late last year
America’s unfunded liabilities (including Medicare, Medicaid and Social Security), rose by $11 trillion last year to $222 trillion. To put that in context, the entire US economy is just $15 trillion, of which $3 trillion a year is paid in tax. If you expropriated all the wealth of the richest 400 Americans…the $1.7 trillion you would get wouldn’t make a dent.
In Britain the Office of Budget Responsibility reported last week that with zero migration the costs of an ageing population would push government debt up to 174% of GDP by 2062. To hold it where it is Britain would need, the OBR estimates, immigration of 260,000 people a year.
Like the ruins described by Shelley’s “traveller from an antique land” the ruins of Detroit are a warning of hubris and complacency, of the belief that it’ll never happen to us. We should heed the warning.
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Aug 28

Five Bullish Commodity Charts from China

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Many analysts say the Chinese economy is bust, and the commodity boom with it…

OVER the PAST few months, writes Frank Holmes of US Global Investors in his Frank Talk blog, investors have seen better economic data coming out of Europe.
Consumer confidence in the continent has been rising, manufacturing data is improving and the fiscal situation is on the mend. Now, China appears to be strengthening as well, which could signal better times ahead.
Below are five charts that I believe look bullish for China and commodities. While not meant to be comprehensive, they do point to areas where investors might want to pay close attention.
1. Economic Surprise Indices Improved in the US, Euro and China
An increasing amount of economic data releases are beating analysts’ expectations in the US and Europe. In recent months, the three-month change in the economic surprise index for the US has climbed considerably higher. It’s the same story for Europe.
These developments are positive for China as well because, as I have previously indicated, Europe and the US are China’s largest export trading partners, and therefore, these areas have a large impact on the Asian country’s economic health.
Now, the economic surprise index in China is moving up to the “neutral zone,” says BCA Research. As a result, “China-sensitive commodity prices have risen,” says BCA, with A-shares, Chinese container freight traffic and spot iron ore prices all looking encouraging.
2. Huge Jump in Flash HSBC China PMI
Last Thursday, the Flash HSBC China Purchasing Manager’s Index (PMI) climbed to 50.1, which beat Bloomberg’s consensus of 48.2. This improvement in manufacturing data was largely driven by domestic demand, as all sub-indices rose except for new export orders.
Our research has shown that this move is positive for commodities. When the current number moves above the three-month moving average, it has historically signaled higher prices for crude oil as well as many energy and materials stocks over the following three months.
3. Rising Copper Imports into China
China is no longer reducing its inventory of many Chinese commodities, as imports of copper are on the rise, according to BCA. As you can see in Weldon’s chart below, in July, copper imports rose to more than 400,000 metric tons. This was the third month in a row that we saw rising Chinese imports.
As a result of this stronger import data, in addition to declining inventories, the price of copper climbed to the highest level since May.
4. China’s Crude Oil Imports Climbed to Record High
Crude oil imports also rose, climbing to a record high in July. Wood Mackenzie calculated that if oil imports continue rising, China could overtake the US as the top oil importer by 2017, says Reuters.
5. China Continues “Growth-Friendly Policies”
Investors who followed the incredible infrastructure boom throughout China in the last decade may be waiting for that to happen again. Growth won’t happen at the same pace, as Beijing is very comfortable with its country’s slower rate and does not intend to introduce dramatic stimulus as it has in the past.
That doesn’t mean commodities won’t be in demand. The government will continue its investments in infrastructure, focusing on China’s transformation into a consumption-based economy. Improving income growth, urbanization, economic rebalancing and the well-being of its citizens are among the leaders’ goals.
As one example of the “growth-friendly policies,” BCA points out the massive increase in the country’s urban subway systems, as the “length of light rail and metro will be extended by 40% in the next two years, and tripled by 2020,” says BCA.
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Aug 27

Buy Gold, Sell Oil

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The gold price has finally begun rising again in terms of the oil price…

AS WE EXPECTED, the “gold-to-oil” ratio is working in gold’s favor right now, with the gold price rising in terms of crude, says Steve Sjuggerud’s Daily Wealth email.
Back on July 26, we noted how the “gold-to-oil” ratio was ready to snap back. At the time, we reminded readers how this kind of “ratio trade” isn’t a conventional “buy a stock and hope it goes up” trade.
“Ratio trades” – like measuring the price of gold in barrels of oil – involve trading one asset against another asset. For example, one of the most important ratios in this group is the “gold-to-oil” ratio.
Since they are both commodities that have intrinsic value, gold and oil can be affected by the same buying and selling pressure in the market. But their values can get out of whack.
When this happens, traders can step in to sell gold and buy oil… or buy gold and sell oil. The profit on these trades depends on how the two assets move against each other. We used this analysis to time – almost to the day – the epic 2008 bottom in crude oil.
From late 2012 through last month, the gold-to-oil ratio fell from 20 to 12. This means gold collapsed in value relative to oil, with one ounce buying only 12 barrels after buying twenty.
In our July note, we pointed out that this decline left gold and oil in an extreme position. Hedge funds also held extreme bearish bets on gold…and extreme bullish bets on oil…in the futures market. And as you can see from the chart above, our note was well-timed. The gold-to-oil ratio has bottomed, and just staged a short-term breakout in gold’s favor.
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Aug 27

Time to Buy Stocks?

Gold Price Comments Off on Time to Buy Stocks?
Really? After their 40% rally? And with the credit and debt picture turning this ugly…?

In EUROPE, the picture on one side of the banking balance sheet remains one of shrinking credit, writes Sean Corrigan at the Cobden Centre.
This shrinking is more especially of the productive, private sector kind, which is off 5.1% year-on-year after three years of relative stasis. On the other side, the picture is of growing money supply, shrinking interbank reliance, and haemorrhaging non-Eurozone exposure (that first of these having seen its intrazone component reduced by an eighth since mid-2012, the second having fallen by 7%).
Though outright monetary shrinkage is now a thing of the past almost across the Zone, there has been no interruption to the tendency for people to hold assets in their most liquid form, nor for the banks to fail to find anyone other than Leviathan to whom to lend the proceeds – by way of bonds, for example, this last kind of accommodation is up 12.1% yoy, representing an increment of €200 billion which is almost equal-and-opposite to the coincident €240 bln decline in non-financial corporation loans. Crowding out, anyone?
Though everyone wishes to trumpet the claim that a smattering of PMI numbers which have at last clawed back to the 50 expansion-contraction watershed has somehow marked a turning point for the blighted region, this pattern of money and credit flows should show just how premature all this fanfare is.
Take another instance: Spanish banks’ loans to non-financial corporates have fallen 20% in the past twelve months to stand a third lower than their peak and to subside back to 2006 levels. Notwithstanding the 25% overall decline in retail sales in the past five years or so – a shrinkage which still shows no signs of abating – the stock of loans to households is only now beginning to dwindle with much of the 7.7% drop in outstanding mortgages coming in only the last year.
Meanwhile, of course, state debt mounts relentlessly skyward, swelling 18.9%, or almost €150 billion, in the twelve months to April and ballooning as a proportion of either overall income or of the government’s ability to raise revenue. Spanish banks, meanwhile, saw a 10% increase in their exposure to EZ sovereigns which remains at a level equivalent to 100% of their capital and reserves. Does anyone seriously think that more-of-the-same – which is all we are being offered – is the recipe to fix a witches’ brew such as this? 
The UK, by contrast, may be suffering the effects of too successful an application of crank medicine – meaning poor old Mark Carnage may not get the opportunity to live up to his overblown billing as the home country’s monetary Messiah.
The supply of that money is growing rapidly (resident AMS is running at the sort of 10% nominal, 7% rate typical of the last expansion phase) while the unprecedented, circa £500 billion, 30% gap between M4 liabilities and M4 lending which opened up (and which was plugged by a perilous reliance on wholesale – often overseas – sources of funds) under those joint and successive Lords of Misrule, RobespiBlaire and Culpability Brown, has had 90% of that dreadful expansion unwound with the ratio between the two measures having fallen back to a 25-year low of around 8%. Such a newfound consonance between ends and means implies that the banks themselves will form no future hindrance to credit expansion, as and when the call next arises.
Thus far, though, private sector borrowing – whether individual or business – has been slow to respond outside the exploding student loan sector and the BoE’s figures on property loans and transaction counts seem moribund, despite anecdotal evidence of a resurgence which is reflected in the HBOS price aggregate but not, confusingly, in the Nationwide one. As we have recently argued, however, people do not necessarily need to borrow more in the aggregate to get things churning; they only need to downgrade their individual propensity to hold money as a store of value or as a precautionary ‘call option’ and to begin to employ it more avidly as a transactional medium for turnover to increase, velocity to rise, and asset prices to soar.
There have been any number of false starts in the UK, but it may just be that we are on the verge of entering into the zero to pi-by-two section of the rollercoaster once again. One paradoxical thing that is likely to result from such a change is that the dreadful state of the UK current account is like to become even more dire and yet, perversely, sterling may well strengthen if any uptick – however ephemeral – is seen by a market still broadly underweight the archipelago as diminishing the chances of any further QE by offering an island of growth (hothoused or not) in a cold, boreal ocean of contraction.
Stateside, we have navigated the four main eco-events of the week: the FOMC, the GDP revisions, the NAPM release, and the payroll report with a clear if slightly nervy bias to buying yet more stocks, front-running the dreaded ‘taper’ by selling bonds, and an intriguing hint of a switch from precious to base metals.
As for the Fed, the semantic second-derivative in its press statement was that the pace of recovery was categorized as ‘modest’ rather than ‘moderate’, which might be construed as a subtle hint not to expect policy to change in the immediate future.
The GDP numbers, undergoing their quinquennial revision, shifted a whole series of line items from the intermediate to the final category and hence grew the US by a Belgium or so overnight while moving a number of that measure’s historical wiggles ‘modestly’ up and a few others ‘modestly’ down, in an exercise which surely only serves to underline that our oft-expressed distaste for this jumbled aggregate is very well placed indeed.
We have long argued instead for a total economic spending/production gauge insofar as a one-figure characterization of such a complex entity has any justification at all (who really believes there can be such a thing as a meaningful ‘global’ temperature anomaly, for example). Looked at that way – and apart from the fiddling which took place within the mystical realm of imputation (something we also try to strip out, due to our curmudgeonly prejudice for actual, cash-based transactions over the cloud cuckoo land of transfers of virtual goods and services) – not an awful lot would have been changed by this grand numerical vanity, as far as we can see at present.
In passing, are we to assume that the tiresome canaille of NGDP targeters [nominal gross domestic product, unadjusted for inflation] are frantically redrawing their trend lines as we speak, before rushing out unblushingly to beg for even more inflationary impetus from the central banks, no matter what the result of this recast series? Probably, for it would be too much to expect that it afforded them a moment’s pause in which to reconsider the shaky intellectual and dangerous political basis for their fixation.
Sticking to revenue generation – no matter whether it takes place between businesses high up the food chain, or originates when Jane Doe fills her shopping basket – we think we get a better feel for what is happening (and how quickly it is doing so) all along the structure of production and since this approach gives an equal weight to such non-trivial, often more volatile sectors such as those two thirds of manufacturing which do not make it into the GDP count, or the similar proportion of wholesale and retail trade which does not even qualify for inclusion in the gross output numbers, the likelihood is that we get a superior read and certainly a more advanced warning of that potential trouble which is a constant goal of economic monitoring. 
We leave it to those who care to give a detailed exposition of the minutiae of the changes effected: we would just like to wonder at the statistical arrogance which can recast numbers as far back as the Jazz Age. Regarding the ‘capital’ content of the ‘creative arts’, we are a little at a loss as to what smoothed, exponential, X-12 Arima adjustment one applies to a Picasso or a Monet in order to make it compatible with the ‘investment’ quotient of some modern installation artist’s cynical daubings of his excrement on a gallery wall. How did the Jazz Singer compare with Top Hat, or The Maltese Falcon with Goldfinger, the triumphant Dark Knight with the execrably dire Lone Ranger, or Madagascar XXVII against Fast & Furious XIX (or whatever instalment it is we are up to now)? 
Then there was the pensions wheeze. Ironically being delivered in the week when S&P noted that the 500 index’s members posted record pension and post-retirement benefit deficits last year of no less than $687 billion, the BEA’s new methodology henceforth counts contribution shortfalls of this type as a notional loan by the firm on which it will pay virtual interest, thus adding a corresponding phantom amount to the totals for the personal income and personal saving of their employees! Taken to an extreme, if admittedly an absurd one, this would imply that were my boss to fail to adhere to any of the pecuniary terms of my contract, it should be a matter of indifference to me, since I will simply be lending him my salary alongside my pension, making me just as well-off as before, if a trifle less weighed down with coin until that happy day when (if) he munificently makes good the shortfall. Ugh!
Another reminder of the suspect nature of statistical series to whose fractions of a percentage change we insist on attaching a wholly spurious importance can be seen in the discrepancy between the BEA’s NIPA estimate of wages and those we can derive from the BLS employment figures. According to the first reckoning, private wage income rose a creditable 4.3% annualized from QII’12 to QII’13, but the latter’s hours x wages product only advanced 2.8% between the same two endpoints. Within that, the BEA figured that manufacturing wages increased by 2.7%, while the latter showed a less disparate, but still noticeable, 2.4% increase.
As for the employment report itself – another of our less esteemed statistical pots pourris – this was, on the face of it, mildly disappointing, with an unremarkable 165k jobs added in July and back revisions subtracting a further 26k from the running total.
In fact things were worse still, if we suspend our usual cavils and take the numbers we were given at face value. Consider that, of the one million new jobs added in the last four months, less than a fifth were full-time in nature (thank you, Obamacare!) while no less than seven-eighths were taken by women. Nothing against the ladies, per se, you understand, but it is an undeniable fact – over whose possible cultural, institutional, and biological causes we have no wish to become embroiled – that the average female job involves less pay, fewer hours, and a deal less value added than the average male job.
Hence, while any expansion of work is not to be sneezed at, nor any honest labour derided, it is nonetheless hard to escape the conclusion that things are not exactly cooking with gas. Partial corroboration here can be had from a glance at the BEA’s guess at real, per capita disposable income which has grown in the past year by precisely zero percent, even if you accept their lowball 1.1% deflator and the higher salary count we discussed above as acceptable inputs to the calculation.
Attacking this from another angle, we can also see that there has been no new increment of manufacturing hours since the start of last year while the real wage fund (hours x pay / CPI) is falling at close to a 1% annual pace – not yet slow enough to signal a full-blown recession (under the mainstream classification, at least) but a matter of no little concern, regardless.
Add to this the fact that manufacturing shipments have dipped to a level which has been followed by a recession every time it has occurred in the past quarter-century bar one if you allow us to promote the Asian Contagion of 1998 (which brought severe hardship to half the people on the planet and panicked the West into effecting some rather damaging rate cuts) to honorary membership of the NBER’s US Recession Hall of Infamy – that sole exception being the occasion of the 1996 GM autoworkers’ strike whose settlement saw a swift restoration of normal service.
Widening out manufacturing to add in trade sales and a similar picture emerges: business is as slow as it has ever been outside of a recession over a forty-two year stretch – this time barring only the ‘false alarm’ in 1986-7 which was, at the time, nonetheless sufficient to spook the incoming Greenspan Fed into slashing interest rates by 2 1/8% in short order and so to leave the funds rate at ten year lows.
Given all this, the last big number of the week above was truly extraordinary, for the NAPM jumped from a lacklustre 50.0 all the way to a two-year high of 55.4. Along the way, the production component soared to a nine-year peak which was in the 95th percentile of the last half-century’s readings after a two-month gain so exaggerated that it hit the 3.3 sigma mark and so intruded into territory previously reserved for the initial snaps-back from the deep recessions of 1974-5, 1981-2, 1984-5, and – what else? – the GFC itself.
Given that NAPM tends to fluctuate in rough synch with business revenues (what else can a boss quickly estimate when he fills in his monthly questionnaire?) and that a plot of its employment component (which saw its largest jump in four years to reach a one-year high) also tends to track that presently anaemic wage fund series we mentioned earlier, it is hard to resist the suspicion that this was nothing more than a rogue result and that it will suffer a similarly dramatic – and similarly inexplicable – collapse next time around. 
On top of this, mortgage purchase applications are sharply lower (refinance apps have been cut in half); lumber is falling as multi-family housing starts (domain of the REO-to-Rent speculative crew) have plunged 35% to a level consistent with the last two housing busts; private non-residential construction spending has stalled out, stuck at the same levels as a year ago and 30% blow the bubble highs; and West Coast container trade flows have declined.
Nobody may wish to believe it, but it just might be that the US economy has seen its best for this phase of the cycle.
Where does that leave assets? Arguably overpriced and overbought.
The Value Line, equally-weighted average has just touched yet another new high, up almost 40% since mid-November in a run which has not even seen a correction of more than 5.2%. There it stands supreme, some 60% over the pre-Crash peak and no less than three times what now look like the Tech Bubble foothills. In doing so, since the Age of Irrational Exuberance began with the second half of the ’90s, the index has outstripped revenues by a factor of more than four.
Meanwhile, the VIX has swooped to a low only once briefly undercut since before the last New Era started to lose its lustre in early 2007. As a result, our ‘Blue Sky’ index – the OEX divided by the VIX, being an inverse representation of what people perceive to be the worth of buying price protection – has jumped to the upper third of the ninety-ninth percentile of the past quarter-century’s distribution, an anoxia-inducing plane only briefly exceeded just as the first rumblings of the forthcoming doom started to afflict the Boom in the March of 2007.
A growing, if still not yet critical, concern is the fact that while stock yields are falling (multiples are expanding), those on bonds are heading northward. In the US, this has meant that BAA bonds are their least expensive vis-à-vis equities in three years, if still well below the last three decade’s norms.
More intriguingly, the total return ratio between the MSCI World and the JPM Global Aggregate has completed a 4-1/2 year, 100% run since the 2009 depths, exactly as it did between 1995-99 and 2003-7, a move which culminated both times in a major stock market top.
As we have remarked previously, margin debt – whether outright, less credit balance or minus mutual fund liquid assets is near previous bull market peaks. But perhaps the most compelling of all is the constant-Dollar price of Sotheby’s shares, BID/CPI. An infallible sign of a major asset bubble, this indicator hit almost identical peaks in 1989, 1999, and 2007 and fell 5% or so short in the Great Reflation to spring 2011.
After a 40% run in the stock price since mid-April (25% in the last six weeks alone), this gauge is now nosing well up above the snow line. Sold to the gentleman in the red braces!
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Aug 26

Now, About Those US Fed Minutes

Gold Price Comments Off on Now, About Those US Fed Minutes
Panic in the bond market courtesy of pointlessly scanning the Fed minutes…

WHILE the mainstream media instigates reasons why we should give a damn about what people who have little control over the Treasury bond market were thinking at the Fed’s last meeting, writes Gary Tanashian in his Notes from the Rabbit Hole, why don’t we just tune it all out and manage the markets instead?
The top panel shows the 30-year US bond yield marching toward the traditional limiter, otherwise known as the 100-month exponential moving average. The pattern measures to 4.5% or so, so there could be a spike above and a hell of a lot of hysteria at some point.
That’s the collective markets; 98% hype, hysterics and emotion and 2% rational management. Either the 30-year yield is going to do something it has not done in decades (break and hold above the EMA 100) or it is not. Simple.
The relationship between long term bonds (30 year) and short term bonds (2 years) in the middle panel is currently negatively diverging gold as the ratio has dropped this month. Again, we wonder is gold (bottom panel) leading the curve this month or should gold bugs take caution? I think gold is leading the curve, but it bears watching. The relationship became distorted in second half, 2012.
As for gold, it probably bottomed at the end of June. That is because the sold out condition of the sector (read: Paulson puking GLD, hedge fund net short positions, India’s antagonism toward its would-be gold buyer citizens, etc. etc. etc.) was simply historic.
Really, just dialing down all the noise of the last 2 years it was a grand and climactic panic IN to gold in 2011 by the global public in the face of the Euro’s supposed Armageddon. Everyone had bought and then it was time for the bleeding out of this emotional money.
The bleeding went on longer than I originally thought it would, but that is why we do ongoing work to interpret things every step of the way. Hey, no harm no foul. A little patience and ongoing perspective and now we have what appears to be a purified asset class, free of unhealthy sponsorship.
Back to the chart’s top panel. China is a net seller of US Treasury bonds. Japan is a net seller of US Treasury bonds.
As we have been noting every step of the way T bond yields are a function of supply and demand. The global system endured a solid decade of net inflows of global funds into the T bond market. Now it appears the tide may be going out. Hence, interest rates all along the curve – save for the officially manipulated ZIRP on the Fed Funds – are going up.
It is all normal to free market participants; just another phase. It is only abnormal if you buy in to the idea that the Fed is in control and can remotely operate the financial markets indefinitely; if you buy in to the idea that the Fed decides when the cycles are to change.
If you look at it a certain way, it’ll tickle your funny bone as you listen to Huey, Dooey and Louie jawbone ‘Taper’ in the media or as you review what a bunch of bureaucratic clerks had to ruminate about at the last Federal Reserve meeting…
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Aug 23

Gold Jewelry Demand Highest Since 2007

Gold Price Comments Off on Gold Jewelry Demand Highest Since 2007

The decline in the gold price has created a massive buying opportunity in Asia, with gold jewelry, coins and bars flying off the shelves. The World Gold Council crunches the numbers for the second quarter.

Continue reading…

Aug 22

Marcus Grubb: What Caused the Gold Crash

Gold Price Comments Off on Marcus Grubb: What Caused the Gold Crash
Gold demand and supply analysis of the April and June price slumps…

MARCUS GRUBB is the managing director of investment for the market-development organization the World Gold Council.
There he leads both investment research and product innovation as well as marketing efforts surrounding gold’s role as an asset class. With more than 20 years’ experience in global banking, including expertise in stocks, swaps and derivatives, here Marcus Grubb speaks to Hard Assets Investor after the release of the World Gold Council’s quarterly Gold Demand Trends survey.
HardAssetsInvestor: Given the steep drop in gold prices during the second quarter of 2013, I noticed a significant divergence in the different demand categories. Was the spike in jewelry demand merely price-related, or is it a longer-term trend of some sort?
Marcus Grubb: You put your finger on it. Although we saw a fall in overall gold demand for the quarter of 12% from a year earlier, that was largely driven from the investment side. We saw a very big recovery and rebound in the jewelry market. Global demand was up 37% to 575 tonnes.
Quite a lot of that was price driven, and of course a lot of it was concentrated in the two largest markets, China and India. But outside that, you saw strong jewelry performance in smaller countries in Asia, Indonesia and Thailand, etc.
In the US jewelry market, you saw a second quarter of positive demand – the first such run since 2005. You’re seeing a recovery even in some Western markets for jewelry, too. So there’s more to it than the price drop.
Yes, in Asian markets, that was the key driver, because consumers felt that gold was cheap at these levels, and our surveys indicate they still do. But if you look at the US, that’s not the main reason. You’re starting to see an improvement in economic conditions, albeit very slow. Therefore, the increase in jewelry demand in the country is likely to be a longer-term trend.
HAI: In April and May, we kept hearing reports about the massive buying in Asia on the physical investment side. The final numbers seem to bear that out, don’t they?
Marcus Grubb: They do; these numbers are pretty staggering. Total demand in India for Q2 was up 71% over last year – and last year wasn’t bad! Total demand in China was up 85% on last year. If you look at the half year, total demand in India is up 48% over the last year at 566 tonnes, while total demand in China is up 45% to 600 tonnes.
It confirms absolutely that physical demand stepped up to the plate. Moreover, it confirms that the measures the Indian government has taken to reduce imports are not having a major effect on gold demand in India.
HAI: It looks like both China and India are on track for maybe 1,000 tonnes in demand this year…?
Marcus Grubb: Absolutely right. As a result, we’re upping our range for these two markets. We now put our target for both markets up to 900-1,000 tonnes each. That is an expectation of a record year for China, because China has only ever been as high as 776 tonnes before. India has hit 1,000 tonnes before, so it’s a less bullish forecast for India. Still, we do expect both markets could now end up near 1,000 tonnes by the end of the year.
However, it’s very hard to call which will be the largest market this year. At the half-year mark, they’re only about 34 tonnes apart.
HAI: We’re seeing somewhat of a battle between the government and consumers in India. Who’s going to win out in the end?
Marcus Grubb: That’s a very difficult question to answer. We’ve seen a succession of measures now in India. There have been at least six or seven different measures including the increases in import duties, of which this week’s was the latest one.
We know that these measures are designed to try and improve the current account deficit. India’s problems are not really with the gold market. They’re with the fact that the current account deficit is high as a percent of GDP, and the government is seeking to reduce that, by a number of different measures, of which these measures against gold are one.
The lesson so far is that it’s not having any impact on physical demand. What you’re seeing is that the market is being disrupted by these measures. The local premium increased last night [Aug. 13, 2013] to about $57 an ounce, but the demand remains undiminished. We’re also going into the strongest period of the year for Indian gold demand with the Diwali festival coming and the stocking for Diwali coming in September.
At the end of the day, we just don’t believe that these measures will ultimately affect demand for gold at the consumer level in India. It’s too cultural, it’s too religious, it’s too linked to festivals. Also at these prices, even with the premiums, gold is relatively cheap for Indian consumers compared to recent history.
HAI: I would be remiss if I didn’t ask about ETFs. It seems that one can trace the bulk of the gold price decline this year to selling by these financial products.
Marcus Grubb: In the physical market, that’s true. And that has been the only source of supply into the market. The trigger for that, though, has been the reversal in positioning in the gold futures market, the nonphysical market.
You’ve seen a 20 million ounce net long for 12 years decline to about 2 million ounce net long until a few weeks ago. What that meant was the longs were still long in Comex, but there was an almost equal number of traders who felt that they wanted to be short gold, i.e., they had a bearish view of the gold price. For 12 years, that wasn’t the case. For 12 years, the short was about 3 million to 8 million ounces; the long about 20 or 25. The long stayed at 20 million, but the short has gone right up to about 18 million. That’s the main trigger for the selling in the ETFs.
Also, to some degree, the ETFs have become a source of physical gold for the market. If you have backwardation in the gold futures, the ETFs almost become a cheap source of physical gold for consumers who are prepared to pay a premium in Eastern markets. Not when the gold price is flat or rising, but when it’s falling, then is that the case. In some ways, it means some of these ETF redemption activities are not necessarily as negative as it might appear.
I do think it was essentially triggered by the reversal in sentiment in futures. And the third level of that is the driver for the shift in sentiment – this belief that the US economy is strengthening, that things have improved, and that the Federal Reserve therefore will start to taper QE in September. But with a 30 percent-plus drop from the all-time high, I think all of that is priced into gold.
My final comment on that is that our analysis shows that even if real interest rates are positive in North America, that can still be bullish for the gold price. But that’s not the perception of a lot of people. They think that the minute rates start to rise, that will be negative for gold. It isn’t that simple. If inflation rises as well, and real rates [interest rates minus inflation rates] stay relatively low, that is actually not bearish for the gold price. 
The last thing I’d say is we’ve had 400 metric tonnes come out of ETFs in the second quarter. We’ve lost about 650 tonnes year-to-date. It’s our view that the gold that’s come out in the first part of this year – which is roughly 650 tonnes – is probably those investors who went into the ETFs with a hedge against the financial system collapsing. They weren’t necessarily buying gold as a long-term, strategic investment.
The remaining investors now are very much those who see gold as core holding in a portfolio, as a strategic diversifier and a hedge against risk.
HAI: It’s interesting that you said the shift in speculative sentiment in the futures market precipitated the decline. For gold to rebound, would we need the speculative investors to come back into the market?
Marcus Grubb: We need the ETF redemptions to cease. That is happening. They’ve slowed now to pretty much a trickle in recent months. But the key to a return to balance in the market is two other things: It is the physical market rebalancing itself with a big increase in consumer demand, and a fall in supply, which is what you see in our latest figures.
Also, ultimately, you need the short position in Comex to be reduced. You need those shorts to decide that, at this price, with this market outlook, with this view on other asset classes, they no longer see gold as a short. And then they will do what has happened in the last few weeks – they will close out those short positions and you won’t see such heavy downward pressure on the gold price.
HAI: One surprise in the report was the reduction in purchases by central banks in the quarter. What happened there?
Marcus Grubb: I’m a little surprised at that as well. Overall, it was still a net purchase of 71 tonnes, which is pretty good by historical standards. But we have reduced our target for central banks this year. We’re now looking for about 350 tonnes for the full year. Our view is that nothing much has changed. Prices were very volatile and there was a lot of uncertainty in the market.
On the one hand, you’d expect central banks to come in and buy because they’re on the bench just waiting for the opportunity. We know that and we don’t think that has changed. Those emerging-countries central banks are still buyers. They still want to maintain an increase in their gold holdings for all the reasons we’ve pointed to in the past.
But the gold price volatility was one thing that put them off coming in during the quarter. If we’re right about that, I’d expect to see central-bank demand pick up again in the latter part of the year, provided the market remained stable or even if we have a further rise in the gold price.
HAI: We saw supply fall by 6% in April-June compared to last year. How was the split between recycling and mine production? And how do you see mine production reacting to these lower prices?
Marcus Grubb: The other key to the market is restoring physical balance again, and that will also entice the shorts to close out and go elsewhere in the futures market. On that score, the 21% drop in recycling was very positive. If that’s maintained throughout the year, you’ll see probably 300 tonnes less supply this year overall.
Heading through to the end of the year, we’re going to see more restructuring by the mining sector, reductions in developments and exploration, and cost cutting on an operating level. All of this is going to have an effect on mine production. Obviously that will take time to come through, whereas recycling adjusts very quickly because it’s directly related to the gold price. We do believe you’ll see gold mine production flatten and even decline. We don’t have a formal forecast yet for the full year, but we would expect to see the second half be weaker. I wouldn’t be surprised to see mine production flatten in Q3 and even drop in Q4 as the mining sector adapts to this lower trading range. That all helps restore balance for the market.
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Aug 22

Gold Grade Is King

Gold Price Comments Off on Gold Grade Is King
Or it was. But gold grades are fading fast as new reserves get harder to find…

In the GOLD MINING business, it is said that grade is king, writes Andrey Dashkov, research analyst with Casey Research.
A high-grade project attracts attention and money. High-grade drill intercepts can send an exploration company’s stock price higher by an order of magnitude. As a gold project moves to the development stage, the higher the grade, the more robust the projected economics of a project. And for a mine in production, the higher the grade, the more technical sins and price fluctuations it can survive.
It is also said that the “low-hanging fruit” of high-grade deposits has all been picked, forcing miners to put lower-grade material into production.
You could call it Peak Gold – and argue that the peak is already behind us. Let’s test that claim and give it some context.
One of the ways to look at grades is to compare today’s highest-grade gold mines to those from the past. We pulled grade data from the world’s ten highest-grade gold mines for the following chart.
As of last year, grades at the richest mines have fallen an average of 20% since 1998. However, except for 2003, when the numbers were influenced by the Natividad gold/silver project (average grade 317.6 g/t Au) and Jerritt Canyon (245.2 g/t Au), the fourteen-year trend is relatively stable and not so steeply declining. The spike in 2003 looks more like an outlier than Peak Gold.
However, these results don’t provide much insight into the resource sector as a whole, one reason being that the highest-grade mines have vastly different production profiles.
For example, Natividad – owned by Compañía Minera Natividad y Anexas – produced over 1 million ounces in 2003 from ore grading over 300 g/t gold, while the San Pablo mine owned by DynaResource de Mexico produced only 5,000 ounces of gold from 25 g/t Au ore in the same year.
This made San Pablo one of the world’s ten highest-grade operations in 2003, but its impact on global gold supply was minimal. In short, the group is too diverse to draw any solid conclusions.
We then turned to the world’s top 10 largest operations, a more representative operation, and tallied their grades since 1998.
The picture here is more telling. Since 1998, gold grades of the world’s top ten operations have fallen from 4.6 g/t gold in 1998 to 1.1 g/t gold in 2012.
This does indeed look like Peak Gold, in terms of the easier-to-find, higher-grade production having already peaked, but it’s not as concerning as you might think. As gold prices increased from $302 per ounce at the end of 1998 to the latest price of $1377, both low-grade areas of existing operations and new projects whose grades were previously unprofitable became potential winners.
Expanding existing operations into lower-grade zones near an existing operation is the cheapest way to increase revenue in a rising gold price environment. So many companies did just that.
Indeed, the largest gold operations – the type we included in the above chart – would be the first ones to drop their gold grades when prices are higher, simply due to the fact that what they lose in grade they can make up in tonnage run through existing processing facilities. Larger size allows lower-grade material to be profitable because of economies of scale. New technologies have helped to make lower-grade deposits economic as well.
So, at least until 2011, the conventional wisdom of “grade is king” was being replaced by “size is king.”
However, production costs have been increasing as well – and have continued increasing even as metals prices have retreated in recent years. Rising operating costs and capital misallocations (growth for growth’s sake, for example) are at least partly to blame for miners’ underperformance this year.
Suddenly, grade seems to be recovering its crown. It remains to be seen whether more high-grade discoveries can actually be made, or whether Peak Gold is actually behind us.
Truth is, there is no king. Grade and size, although among the most important variables in the mining business, tell only part of the story. Neither higher grades nor monster size prove profitability by themselves – the margin they generate at a given point in time is what matters most. And then what the company does with its income matters, too.
Now that the industry has moved on from a period of reckless expansion, we expect investors to become more demanding of the economic characteristics of new projects coming online. Existing mines that processed low-grade ore in a rising gold price environment are now judged by the flexibility they have to cut costs, increase margins, and persevere through gold price fluctuations.
It’s true that high enough grade can trump all other factors in a mining project, but it’s the task of a company’s management to navigate the changing environment, control operating costs, and oversee the company’s growth strategy so that it creates shareholder value.
The resource sector has had a sober awakening, and now we see many companies changing their priorities from expansion to profitability, which depends on many parameters in addition to grade. This is a good thing.
As for Peak Gold, if that does indeed turn out to be behind us, the big, bulk-tonnage low-grade deposits that are falling out of favor today will become prime assets in the future. It’ll either be that or go without.
Times may be tough, but the story of the current gold bull cycle isn’t done being written. The better companies will survive the downturn and thrive in the next chapter. Identifying these is the ongoing focus of our work.
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