WGC predicts stronger gold

With the 1980 record gold price of US$850 per oz. within sight once again, high demand and tight supply of the yellow metal have the World Gold Council predicting a new price floor, making gold’s future look strong over the long term.

The WGC’s third-quarter report says that investor interest will continue to be intense during the fourth quarter of 2007, but that jewelry demand will likely fall due to price volatility, especially in more price-sensitive areas, such as Asia and the Middle East.

Based on past experience, the WGC expects that those jewelry buyers will regain confidence if the gold price stabilizes.

WGC economic advisor Jill Leyland says that there are far more positive factors that support gold’s continued rise than negative ones that would depress its value.

“As far as we can see, the fundamentals of gold demand are likely to remain very strong because of the key markets — countries like China, India, the Middle East — the economic outlook is still very strong for the next year,” Leyland says. “Therefore, you’ll get people getting wealthier and therefore buying, among other things, more gold.”

In the event of a U.S. recession or slowdown — which is not inevitable, Leyland says — American demand for gold would be affected. China and India wouldn’t be able to avoid the impact altogether, and would likely see slower growth, she says.

Gold’s recent rise has been supported by constrained supply coupled with very strong demand, from both the jewelry and investment sides. But another important factor has also contributed.

“I think a key factor that’s been responsible for driving the gold price up over the past years has been the growing interest by investors,” Leyland says. “And that itself is generated by several different things.”

Leyland says the macroeconomic environment — which takes into account such things as the falling U.S. dollar over the last five years, political problems such as 9/11, which make gold a safe haven, and concerns about inflation — has provided a boost to the gold price.

She says gold exchange-traded funds (ETFs), which were introduced in 2003 to provide a new way to invest in the precious metal, brought a wave of new gold investors to the market. ETFs allow an investor to buy an entire portfolio of stocks through a single security that tracks and matches the returns of a stock market index.

“The majority of people who’ve bought ETFs have not been people who were investing in gold previously,” Leyland says.

Identifiable investment demand nearly doubled 2006 third-quarter levels to 240.7 tonnes from 122.7 tonnes due to a record inflow into ETFs. ETF demand increased 617% to 138 tonnes during the third quarter, compared to the same period a year before. ETF demand was up from -3.1 tonnes in the second quarter and 36.4 tonnes in the first quarter.

WGC’s third-quarter report says gold demand reached a new record in dollar terms at US$20.7 billion, up 30% from the year before, and a 19% rise in tonnage to 947.2 tonnes. Jewelry demand rose from the third quarter by 6% to 590.7 tonnes and by 16% in dollar terms.

Gold supply during the third quarter was 16% higher than the same period a year earlier, reaching 1,045 tonnes. But the report says this was not due to in increase in mine output, which was as constrained as ever, but to a sharp reduction in de-hedging and higher central bank sales, as well as scrap sales, to a lesser extent.

“That’s the only thing that would help increase supply in the next year or so — but not immediately, because I think the pressure is still very much to continue de-hedging,” Leyland says. “(Mining companies) want exposure to what they see to be a price that’s still got somewhere to rise.”

Leyland says de-hedging, be it not renewing hedges or buying back hedges, cannot continue much longer.

The hedgebook is at just under 1,000 tonnes gold at the moment, but reached as high as 3,000 tonnes at its peak.

The WGC report said the increase in supply helps explain the increase in demand in tonnage terms, but that it doesn’t explain the rise in the London Historical gold fix, p.m. price, which rose to US$743 per oz. on Sept. 29 from US$648.15 per oz. early in the third quarter.

Since then, gold has risen as high as US$841.10 per. oz. on Nov. 8.

Leyland says the tight gold supply will likely continue since mine output is not expected to grow rapidly in the near future, but also because the central banks, especially in Europe, have not been meeting the 500-tonne limit for gold sales for the last few years.

“It looks like they will continue to undershoot that limit, possibly by a certain margin,” Leyland says. “It means there’s less gold coming on to the market so you’ve got a reduction in supply and therefore there’s nothing to alleviate the pressure on the price.”