Posted: 17 Sep 2009 10:00 AM PDT
Evidence suggests its recent bullion buying is just the beginningThat's a question that Westerners have been asking for, oh, several millennia now. Or at least since Marco Polo aimed his ponies down the old Silk Road in 1271.
Now as then, China keeps its own counsel. We know what they want us to know, plus what we can surmise from rumor and reading between the lines. But lately, we've been able to add presumption to news and come up with something that looks very significant.
Specifically, there's been a flood of tantalizing stories out of the East that, taken together, strongly suggest a growing preoccupation with a form of money that was ancient even in Signor Polo's time. And it ain't silk. It's gold.
We already learned, back in April, that China has been salting away bullion for the previous six years, out of sight of international gold watchers; to the tune of 14.6 million ounces. Now the evidence suggests that that was merely the prologue.
Let's take these tidbits one at a time:
Sovereign wealth fund dumping $$ for gold? This one is still at the rumor stage, but highly-respected website Mineweb.com is supporting it (http://www.mineweb.com/mineweb/view/mineweb/en/page67?oid=88400&sn=Detail). What we know for sure is that the country founded its primary sovereign wealth fund, China Investment Corporation (CIC), two years ago, with the stated aim of rapidly deploying some of its $1.5 trillion forex surpluses – $200 billion initially, with another $100 billion recently added to the kitty – into investment in non-Chinese enterprises. This it has been doing in spades, acquiring businesses around the globe. Extractive industries are among them, including Teck Corp., the diversified Canadian mining giant.
Might it also be buying up gold? We don't know that for sure, but it seems likely. And, in addition, rumors sneaking off the mainland indicate that within the CIC, a lot of effort is being poured into prospective investment deals in the oil and precious metals sectors. The more it produces, the more it can keep.
The Chinese have made no secret of their disdain for current American economic policy and what they see as the inevitable destruction of the dollar. That they would be moving to diversify out of the greenback shocks precisely no one, and gold is one logical landing place for all those bucks. We suspect that's exactly what is happening, behind the scenes as well as center stage.
Gold and silver pushed to the people. As recently as 2002, the private ownership of gold was prohibited in China. You could be jailed if caught with any in your possession. Beginning in 2009, in a stunning about-face, the central government removed all restrictions. In fact, as Mineweb and other sources report now it's actively pushing folks to buy some personal metal, with China’s Central Television, the main state-owned television company, running news programs cum infomercials, letting the public know just how easy it is to purchase gold and silver as an investment.
It truly is as simple as can be, because every bank sells gold and silver bullion bars in four different sizes to individuals. (Try to find the same the next time you make the trek down to Wells Fargo.) Mining companies are reportedly encouraging employees to convert some of their wages to gold on payday. Gold is traded in some form 24 hours a day. And paper proxies for the metal are also soaring in popularity.
There are persistent rumors that the export of silver has already been banned. Gold could be next.
Thus China, which only yesterday was the lowest per-capita consumer of gold in the world, is bidding to become the biggest. Some analysts believe it will pass India – the top dog since forever – as early as 2010. Clearly, the government believes the country is strengthened if everyone who can holds some hard currency.
All this suggests a mania in the making, and only in the formative stage. Imagine if hundreds of millions of new consumers climb on that particular bandwagon…
China repatriates its bullion. Meanwhile, in early September numerous sources (see, e.g.: http://www.marketwatch.com/story/hong-kong-recalls-gold-reserves-from-london-2009-09-03) reported an announcement that Hong Kong is pulling all its physical gold holdings from depositories in London and transferring them to a newly built, high-security depository at the city’s airport.
That means the government is backing the promotion of Hong Kong to a more formidable status as a Swiss-style, regional trading hub for bullion, at the same time as it reduces London’s role as a key settlement and storage center.
Press reports cited government officials as saying that marketing efforts will be launched to convince Asian central banks to transfer their gold reserves to the Hong Kong facility. Outreach will also be made to commodity exchanges, banks, precious metals refiners and ETF providers.
There can be little doubt this signals that the Chinese government fully recognizes the importance of gold in a time of crisis, and that the most prudent plan involves keeping its stores close at hand.
China threatens to "just walk away."In one of the year's most intriguing developments, commodity and derivative markets were thrown into a tizzy on Monday, August 31, by the worldwide circulation of a story published two days earlier in Caijing magazine (and reported by Reuters here: http://www.marketwatch.com/story/hong-kong-recalls-gold-reserves-from-london-2009-09-03).
According to the Caijing article, a spokesperson for China's state-owned Assets Supervision and Administration Commission – the regulator and nominal shareholder for state-owned enterprises (SOEs) – told six foreign banks that SOEs reserve the right to default on contracts.
Maybe the commission has been paying attention to the "just walk away" forfeiture movement that blossomed among American homeowners whose overall debt on their properties far exceeded the assessed value.
Small wonder there was panic in trading houses that hold a lot of Chinese paper. They hope any problems will be worked out short of a default. In fact, "It’s [only] a handful of companies who are being encouraged by regulators to're-negotiate'," says one banking source. "It’s outrageous, but it’s China, so everyone is treading very carefully." Very carefully.
Nevertheless, in addition to tangible losses, those potentially affected fear the establishment of a dangerous precedent, one that could lead to utter chaos in the enormous, tangled world of derivatives.
And there is one other, albeit highly speculative, possibility. Some major entities – we don't know who, due to the opaque nature of international gold trading – have huge, perhaps quite concentrated short positions in the metal, both on the COMEX and OTC market. Is one of them China, acting through American intermediary banks?
A short position in precious metals means that the initiator of that position is obligated to deliver physical gold or silver if the buyer (who holds the long end) wants it. Suppose China is one of the big shorts. Suppose it's been playing the market in order to buy at what it sees as bargain prices. Now suppose a gold rally induces it to just walk away from all those obligations to deliver. Who's going to force it to make good? Guess what, no one has a gun large enough.
Granted, it's an outlandish scenario. But impossible? No. Beijing has shown nothing but indifference to what others think of it. And if the dollar does crap out as the world's reserve currency, there's nothing to say that China won't see its self-interest as lying in a completely new direction.
Conclusion: Gold, and the companies that produce it, have enjoyed a brisk runup of late, as the metal mounts yet another assault on the beckoning, symbolic $1,000 level. How much of this can be traced to what China has done, is doing, or may yet do?
We don't know, but we suspect it's not entirely coincidental. All rumor and speculation aside, as China clearly turns more and more bullish on gold, so will everyone else.
Hopefully you have already secured your share of physical gold and silver before the masses start a run on them. Another of our favorite gold-related investments for 2009 – with even more potential upside than the yellow metal – is a company that has delivered reliable returns throughout the last year… even at a time when the Dow and S&P were tanking. Thus we call it "48 Karat Gold."
Posted: 17 Sep 2009 09:46 AM PDT
Has likely been in a bull market since late 2000My readers know that while I am prepared to see the great stock bull rally that began in March continue, I see it as a rally within a bear market.
If that is the case, at some point, the stock market – which has gained so very much since March (in many cases the most since 1933 in the last six months) – will fall apart. If that happens, will that take precious metals stocks with them?
I usually see each asset group on its own terms, and not automatically connected with any other asset class. And while stocks in precious metals companies are stocks, the major ones have been in a bull market since the end of 2000. Compare that with the general markets, which have been going nowhere since that time.
I’m going to show this using the “Gold Bugs Index,” symbol ^HUI. This is an index of 15 large mining companies that mine gold all over the world. Most are North American-owned, but some come from South America as well as South Africa.
You can see that since the gold bull market began in December 2000, this index soared from 35 to 500 just over eight years later in March 2008. That was an increase of 1,329%. During this exact same time, the Dow Jones Industrials rose only 12%, from 10,700 to 12,000.
But since March 2008, the gold mining shares index started to fall. It has now fallen from 500 in March 2008 to the current 409. That is a fall of 18%, and it lowers the entire sweep of the bull market for these metals stocks to only 1,069% from December 2000 until today.
But the Dow has also fallen back from its March 2008 levels. About 12,000 then, it is now 9,441, or a loss in the last 18 months of 21%. The Dow has gone from 10,700 at the end of 2000 to just 9,441 today. This is a loss of 12%. Remember, during the same time, the Gold Bugs Index has soared 1,069%.
Granted, huge falls in the Dow have taken down all stocks, even the precious metals ones. But I think something bigger has been going on. Over a multi-year period where the Dow and the global indices have gone nowhere or even lost, the large gold stocks have risen sharply.
Over the longer term, this means they have been following the bull market in physical gold more than they have been affected by the lackluster performance of stocks during the last decade or so.
I think that the era that began in late 2000 and early 2001 has marked the start of a new bull cycle in gold and the other precious metals. I further think this trend has more to go. Yes, all stocks can be sold off in a panic. And yet when gold itself stops its corrective phase and resumes its bull run, I think the precious metals stocks will continue to outperform, over time, the more general stock market.
This said, I would not advise holdings that are only large mining stocks, with no physical gold.
Physical gold did not rise as much as precious metals stocks from 2000 to March 2008. But on the other hand, it has not fallen so far from its peak. Spot gold is down at this writing about 1% from its peak 18 months ago.
My advice continues to be to have both. Own the physicals for the basic “meat and potatoes” (or rice, or pasta, depending on where you live) of your overall holdings, but own large stocks to add the spice.
As for small mining companies, or companies that are just in the exploration stage, the last year or so has shown how badly these can be hit. Many lost over 90% of their value over a few months. For me, this is too much spice.
If your stomach can take it, go ahead. But be aware that while you can make thousands of percent if you are lucky, too many people get too greedy in this area and end up losing more than they put up.
Me, I’d be happy with the 1,000% returns of the ^HUI since the bull market began nearly nine years ago. Today, you could use the GDX as a proxy for the ^HUI index: GDX was not available back when the bull market began in 2000.
Over the shorter term, precious metals stocks can get hit along with all other kinds of stocks. But as long as the long-term gold price is in a bull market, whatever these short-term losses end up being will be much more than overweighed by their outperformance when gold makes another big leg up.
Read more Stockhouse articles by Chris Weber
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