China, peak gold and indicators suggest gold upwards trend to continue

According to expert John LaForge, unless there is no significant improvement on the world monetary situation or real interest rates don't rise dramatically, the gold price trend will remain intact. Springtime for gold is usually best to accumulate the metal, but investors should not expect huge price jumps just yet.

Author: Zig Lambo
Posted: Tuesday , 24 Apr 2012
Mineweb

The Gold Report: The recent price performance of gold has probably left many investors puzzled about what's going on amid all the conflicting background news. What's your broad-picture view?

John LaForge: Gold is telling many stories at the same time. Recently, though, one of the main issues has been seasonality. Gold tends to do best toward the end of the fall, right around the Diwali wedding season in India, up until about now. Springtime through fall is a good time for accumulating, but not to expect big price rises.

The second factor impacting the price recently has been the new Indian taxation issue. India has a trade deficit, and one of the ways it is dealing with that is by trying to tax gold coming into the country. India has been the largest gold buyer for a long time, although China finally did surpass it last year. The two account for about 43-44% of all world gold demand. The Indian tax proposal was met with resistance and strikes. So there has been weaker demand for physical gold in the last few weeks from India.

The third piece is much more macro-oriented. Real interest rates affect the carrying cost of gold. Low real interest rates are very good. When they get up to around 3.5% on a real-rate basis, that's not good for gold because that's the carrying cost. Right now, we're between 0 and 50 basis points, which is very good for gold. But the rate of change in the real rate has slowed and has stopped becoming more negative.

TGR: How big a tax is India proposing?

JL: It's 2%, which doesn't sound like much, but it did cause dealers to strike for the whole week and shut up shop, which is a big deal. In the longer term the tax should have very little impact on the price of gold because gold is an integral part of the culture in India. Any type of tax eventually just gets worked into the price and the consumer just ends up buying a little bit less, but still buying.

TGR: Many gold bugs are predicting gold prices ranging up into the $5,000-10,000/ounce (oz) range in the coming years. How realistic do you feel those numbers are and what combination of circumstances would it take for gold to hit those prices?

JL: Both are truly out-of-the-air type numbers, but, in fact, we once published something on $5,000/oz that was based on time, since the 1970s. When Nixon went off the gold standard in 1971, gold rose from $35/oz to over $800 in 1980. If you apply the current cycle to the 1970s cycle, with gold starting this cycle at $250/oz, the same type of performance would equate to 5,000/oz. today. That's where the $5,000/oz comes from, but we've never actually predicted $5,000/oz.

The $10,000/oz scenario I've seen was equated to money supply. To back all the money out there today with some form of gold, even at just, say, 10% (or whatever percentage used), a $10,000/oz value was reached. If consumers and investors do not trust their governments to stop printing money and governments continue to do so, gold does have a shot at much higher levels than $1,700/oz or $1,900/oz, but I don't know about $5,000/oz and $10,000/oz.

The West is dealing with debt issues and the East is dealing with growth issues and trying to compete with countries that are devaluing their currencies. China doesn't want to increase the yuan too quickly because it makes exports less competitive.

From what we know about commodity cycles going back into the 1700s, the average bull cycle lasts about 17 years. This commodity cycle has now gone 11 years. Typically the first 10 years of those cycles is when a lot of that easy money is made. That's when things like gold go up seven times from $250/oz to $1,700/oz. If gold increased seven times from $1,600-1,700/oz, that would equate to $10,000/oz. To get another seven-fold increase from here would be tough.

TGR: Wouldn't it take some dramatically bad economic circumstances, panics or some combination for people to run it up to those prices in any shorter period of time?

JL: Yes. What you're describing is a fear-based environment with people coming to the realization that all of this paper money floating around is not worthy. History is littered with paper money that has gone bad, whether it's Germany's famous Weimar Republic in the 1920s, or more recently the Hungarian pengo, the Zimbabwean dollar and Argentina's peso. Most Westerners, particularly Americans, don't think much about the value of the currency in their pockets.

As more and more of this money is printed everywhere, not just in the U.S. but also in the Eurozone, Japan, China and elsewhere, there's going to be a realization sometime in the next three to five years that maybe the $20 sitting in a pocket isn't worth what it used to be. How do I protect myself? People are going to start looking more toward hard assets. Gold is one of those. Land could be another one. But gold is clearly something you can pick up and move. It's definitely a place to hold some value and protect wealth. You're not looking at a $15 stock that goes to $600. That's not what gold is for. It's there to protect wealth from this erosion of all of the paper money that's sitting out there.

TGR: From a trading standpoint, what do you see as a downside for gold in the near term?

JL: The major one would be if confidence comes back that governments are going to stop printing money and be held accountable. That will happen one day, which could be tomorrow or 10 years from now. One thing we do know is that secular cycles do end. Stocks will go through a 20-year bull market, and then they have a bear market. Commodities do the same thing. Gold will do the same thing. The gold cycle of people being fearful of all of this money being printed will end. That might be at $3,500/oz, and then it just fades for 10 years and settles around $2,500/oz. You still would have made money if you bought it today.

Confidence is the big factor. One way to track confidence is to look at gold in multiple currency terms: the euro, the yen, the rand-not just the dollar. Gold is rising against all currencies in the world. What would worry me is when that stops. As long as the current uptrend continues, I'm a happy camper.

TGR: It appears we're in the midst of a near-term correction or maybe on the upside of one that just occurred. Is there some more potential downside?

JL: Yes, there is. From our technical work, if gold can't hang in the $1,660-1,670/oz range, the next support level is $1,565/oz. Then there is another support level around $1,480/oz, and finally a big one around $1,300/oz. We don't think $1,300/oz is in the cards because we would need to see some pretty dramatic confidence come back in governments worldwide. But $1,565/oz is definitely a possibility. Gold currently sits below both its 200-day and 50-day moving averages, which is technically bad news. It's basically showing that the trend has slowed and gold is consolidating. That goes with one of the first points we talked about: seasonality. From a yearly perspective, this is one of those times where gold usually takes a breather every year.

TGR: The Chinese seem to be pretty excited about gold. One of the charts in your research shows that Chinese imports of gold really took off dramatically last June and have continued doing so. Do you expect this to continue and what are the implications for the market if it does?

JL: It probably will. Everyone assumes that China is a big buyer of all commodities. China is also the largest producer of gold in the world and hasn't really tried to buy much gold outside of the country. Most has been produced and consumed internally, although it's hard to get data on what it owns. The chart you're referencing reflects Hong Kong import numbers I've been looking through and shows that the Chinese are now starting to buy gold in droves through Hong Kong. This tells me that it is basically consuming everything it can internally and now it's looking outside. That is a game changer.

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