vrijdag 1 november 2013

Central bank balance sheet expansion re-synchronizes

As the gold price flattened out since April 2013, investors are currently wondering if the gold price will finally rise or continue to go down lower. I continue to believe that the gold price has bottomed out as there are several reasons for this. First off, we have a negative gold forward rate for the second time since July 2013 indicating shortages in gold. Every time when we see this event happening, the gold price moves up and this time will be no different.

Chart 1: Gold Price
Second, people should take note of the latest developments in the central bank balance sheets as one major event just took place. After almost 1 year of balance sheet contraction, we see a change in this trend at the ECB. A year ago, many lenders repaid their central balance sheet loans, resulting in a shrinking ECB balance sheet. But my chart shows that the ECB balance sheet actually expanded in October, if we look at it in U.S. dollar terms. You may ask me why I look in U.S. dollar terms? That's because the gold price is priced in U.S. dollars.

As you know, one of the best metrics to predict the gold price is to look at the expansion in the balance sheet of the central banks priced in U.S. dollars, if you want to see the trend of gold in U.S. dollars. It is important to look at all central banks globally as gold is a global " currency".

As you can see below, all 5 most important countries have now synchronized their balance sheet expansion once again. I think this trend is going to continue as the ECB is pressured to put a stop to the rise of the euro. There are now talks that another LTRO is on the table. On top of that several indicators show that extra stimulus is needed from the ECB. Unemployment in the Eurozone edged up to 12.2% while inflation posted a drop. Because of the expectation that the ECB will soon act, the euro has dropped from 1.38 against the U.S. dollar to 1.35 in just one day. Contrary to general belief, I still think that the current account surplus in the Eurozone is the only thing that matters, as long as the Eurozone posts current account surplusses, the euro will continue to rise against the U.S. dollar.

Of course all of these central bank balance sheet expansions will be bullish for precious metals going forward.

ECB = blue
U.S. Federal Reserve = red
Bank of Japan = green
Bank of England = orange

Chart 2: Central Bank Balance Sheets
(The Chinese balance sheet is not included in this graph as it is not available on FRED)           

Chart 3: People's Bank of China balance sheet. Source: yardeni.com

Third, on the supply and demand side we note huge demand from India and China in both gold and silver. Premiums in India have gone up to the amount of 15% above spot price of gold. Net gold imports from Hong Kong into China continue to rise and China retains more of its gross imports from Hong Kong as the latest data shows (Chart 4a and 4b). On the supply side we all know that we are now at a gold price that is under the total production cost of many gold mining companies, so supply is bound to be going down.
Chart 4b: Ratio of Net gold imports to Gross imports from Hong Kong to China
Fourth, another sign of amounting shortage can be found at the U.S. mint where the sale of silver eagles is halted for 4 weeks starting on December 9, 2013. I see the silver premiums rising and expect them to continue rising.

Chart 5: Silver Premium APMEX 1-19 silver eagles

And last but not least, we got evidence from the Finnish central bank that its gold has been leased in the amount of more than 50%. How these banks are going to get back their leased gold is a mystery as physical supplies in the western world are at record lows at the COMEX (Chart 6: registered gold (blue data) at record lows compared to eligible gold (red data)) as well as at the LBMA (Chart 7: negative GOFO means impending default) and ETF holdings like GLD (Chart 8: record low inventories (red data)).

Chart 6: COMEX Gold Allocation

Chart 7: 1-month GOFO rate

Chart 8: GLD Trust: Gold Tonnage Vs. GLD Price

I have pointed out a whole spectrum of reasons why gold prices are bottoming out now and I believe investors should take the opportunity to keep buying on dips.

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