Gold could go higher

The gold price could reach higher levels in 2002, should the market continue to benefit from further investment demand and drops in producer hedging. These two factors were the main reasons gold turned the corner in May 2001, breaking a long-established bear run.

These are among the findings of Gold Survey 2002, published by London-based independent precious metals researcher Gold Fields Mineral Services (GFMS). The survey highlights how sentiment in the market changed from early 2001, when the gold price seemed to be drifting ever lower, leaving the market dispirited. Now, according to Philip Klapwijk, managing director of GFMS, “market participants are generally upbeat about the prospects for gold.”

So far, the price of gold seems to be well-supported by the ongoing decline in outstanding producer hedge positions, as well as prevailing political and economic uncertainty, which has encouraged renewed investor interest.

These positive forces have been more than adequate to counter the impact of fabrication demand that has remained weak during the first quarter of this year.

“Much of the investment in gold we’ve seen recently is based on concerns as regards a wide range of issues: near-war in the Middle East, a shaky Japanese banking system, and so on,” says Klapwijk. “But if political tensions ease and the world economy bounces back, it may be unrealistic to expect much more on the investor front.”

In its analysis of investment, GFMS points out that last year’s higher investment levels were largely a result of short-sellers being squeezed out of the market, as well as a sharp decline in the large-scale physical disinvestment seen the previous year in Europe and North America. The report finds scant evidence for much new, buy-side interest thus far (other than in mining company equities, which have performed exceptionally well).

The survey identifies the emergence of producer hedging on the demand side, particularly in the final quarter, as a further factor that underpinned last year’s price. GMFS’s analysis shows that outstanding hedge positions fell significantly in 2001 and that further contraction in producer hedge books could be seen this year. The report credits this phenomenon to various factors, including the collapse in the contango and the perception that the outlook for the price was looking up.

GFMS sees little prospect of a recovery in total fabrication, at least until the second half of 2002, and then only if growth in the world’s gross domestic product (GDP) picks up strongly. This balance among demand variables of investment, producer hedging and fabrication introduces a degree of fragility to price prospects, given that investment and hedging tend to be more fluid than fabrication.

GFMS also says the recent price rally was made possible by the lack of disruption from the supply side. Mine production, for example, saw little change, year over year, but, as Klapwijk commented: “More important was the stability and transparency of official-sector sales. This has done a lot to underpin investor and producer confidence in the solidity of prices.”

Supply highlights include the following:

– Mine production in 2001 reached 2,604 tonnes, marginally higher than in 2000.

– Production costs in 2001 were the lowest recorded in at least 15 years. Cash costs averaged only US$176 per oz., or US$11 lower than in 2000. Much of the decline was due to currency weakness, especially in South Africa and Australia.

– Scrap rose significantly in 2001 to 706 tonnes, bringing its contribution to total supply to 18%.

– Disinvestment fell dramatically to just 53 tonnes last year, as a result of a sharp decline in physical sales by private investors in Europe and North America and the absence of speculative short selling.

Some demand highlights:

– Total fabrication demand fell to its lowest level in five years, chiefly as a result of the slowdown in growth of world GDP.

– Jewelry fabrication fell by 5%, year over year, owing to weak consumption in many East Asian markets, the Middle East and the U.S.

– Bar-hoarding rose a healthy 7% to 232 tonnes. Much of the increase was due to a pick-up in Japanese interest.

– Producer hedging declined for a second consecutive year, generating a significant 147 tonnes of physical demand.

The publication can be ordered from GFMS for US$360 per copy.