–Well there you go. Gold futures traded at an all-time high overnight. Silver futures hit 39 bucks, a 31-year high. Gold traded as high as $1458.60 before settling around $1452.50. If you’re in the, “gold is a bubble” camp, this should give you plenty to grouse about.
–But maybe this is part of the “liquidity squeeze” Greg Canavan mentioned in his weekend note. Greg got a lot of emails asking about his note. He’s replied and we’ll send out a second note later this afternoon. It deals with whether Greg’s gold forecast is actually much too conservative (at $5,000/oz) and how gold shares might behave if stock prices fall.
–This is playing out more or less as we predicted in 2007. That’s the year we launched Diggers and Drillers (then called Outstanding Investments) and published our first report, “Gold $2,000”. It contained one key ratio we’ll show you in a moment. But here’s the key bit we wrote in 2007, with emphasis added:
There is one relationship in particular that, when applied to today’s market, tells me that the gold price could more than double from its current levels.
The gold/silver ratio is what I’m talking about it. Last time both gold and silver rode a boom in commodities, the gold/silver ratio was 15. That means it took you 15 ounces of silver to buy an ounce of gold. In 1980, that put the gold price at $728.40 and the silver price at $48.00. Do you see what I’m getting at here?
If the gold/silver ratio goes back to where it was in 1980, it’s a virtual certainty that BOTH gold and silver prices will soar. For example, if gold stayed exactly where it is as I write today (about $648), a return to the historic gold/silver ratio I’m talking about would mean – get this – a silver price of about of US$46 (it’s currently trading at just above $13.00).
Does that sound unlikely to you? It does to me. Here’s why.
It is highly unlikely the gold/silver ratio will return to its historic low through a flat gold price and a rising silver price. No. For at least three reasons I’ll show you in just a moment, BOTH gold and silver will rise in the coming sixteen months. And even if the ratio does not return to its historic low, gold prices may more than double.
–Gold has more than doubled since then, although sliver is not quite at $46. But the gold/silver ratio has continued to trend down to its 1980 high, while both gold and silver have moved higher. What it means is silver has been doing a lot of catching up, even though gold hasn’t exactly slowed down. Take a look.
–With gold’s big overnight move the ratio is at about 37. That’s as low as it’s been since 1983. And that is a pretty interesting technical point. If the ratio keeps declining, it means silver prices are headed much higher very soon.
–However, bull markets are rarely so easy to analyse. On the day the Gold Symposium began in Sydney last year gold made a similar move and silver bolted. Both then corrected, although the correction was modest.
–There is strong investment demand for both metals now. And there is a fair whiff of inflation fears in the market. If those were to go away-interest rate rises from central bankers might do the trick-you’d expect to see a pretty hefty correction in gold and silver. And, incidentally, both the European Central Bank and the Bank of England meet later this week.
–Longer term, Europe’s sovereign-debt crisis and America’s nightmarish government finances will weaken confidence in the Euro and the Dollar and probably paper money in general. This supports gold and silver prices.
–But what about gold and silver shares? Keep an eye out later today for Greg’s update. And we’ve heard through the grapevine that Dr. Alex Cowie, fresh back from his trip to the big commodity show in Hong Kong, is putting together a special gold issue of Diggers and Drillers, in which he’ll dish the dirt on his three favourite Aussie gold stocks.
–For the rest of today’s letter, we’re going to set aside the history of the RBA and Nugget Coombs. Don’t worry. They’ll be back next week. But let’s dip into the reader mail-bag, shall we?
Dear Markets and Money,
Thank you for your daily thoughts.
Would you and your team please research and do a report on Peak Oil?
Some say that the peak of world oil extraction happened in 2008. It may still be in the future, but it is inevitable. It will certainly affect investment choices in the future.
Think about it: Peak Oil means Peak Mining, Peak Transport, Peak Globalisation and, well, Peak Everything. From there it’s all a bumpy, long road downhill.
Perhaps renewable energy systems like Solar-Thermal, Tidal, et al will be as good as gold for investment. Please check it out.
–Oh Bob. If you only knew how much time we’ve spent over the last five years reading and writing about Peak Oil! Peak Oil-the theory that the world’s oil production has peaked and is now on a bumpy plateau about to descend down the backside of M. King Hubbert’s Peak-hasn’t gone away since 2008. But the big fall in the oil price took some of the urgency out of the issue.
–It also clouded the investment picture. The irony of the oil price crash in 2008 is that it has led to less exploration for new oil reserves. And now, you have the complicating factor of long-term geopolitical insecurity in the world’s largest producing oil region with the world’s largest proven oil reserves.
–Our own view is that higher oil prices-Brent crude hit US$120/barrel yesterday-are not a product of financial speculation today like they were in 2008. You have a steady global demand just below 90 million barrels of oil per day. And you have increasing doubt about secure supplies.
–The higher the oil price goes (or the higher base it finds), the more attractive it makes conventional and unconventional energy alternatives. The first cabs off the rank are natural gas and coal, although as you know coal is running into political headwinds here in Australia. That probably won’t stop it from being burned in China and America.
–The burst of enthusiasm about renewable in 2008 was exciting. But as reality has set in, the up-and-coming firms making big renewable promises haven’t been able to deliver the promised energy in a cost-effective way. They’ll be more cost-competitive at a higher oil price. But they won’t necessarily deliver more energy. And even with a robust mix of alternative energy, you’re probably not going to get the same energy yield as you do from conventional hydrocarbons.
–For Aussie investors, we have our eyes on a relatively new unconventional industry here. We know all about it because we analysed the same industry in the States in 2005. And the mistake we made then by not investing in it was easily the single greatest investment blunder we’ve ever made. We’ll be telling you that story shortly.
Are these two complimentary that is will I get a different type of investment that is not covered in the AWG?
I am looking for a conservative approach via AWG but I would like to put some money in a more speculative area as well.
–That’s a great question, Harley. AWG is definitely not a stock-tipping newsletter, as you know. Slipping into the first person, I do make stock picks I believe follow from the “big picture” analysis. But AWG is more about having the right wealth strategy (asset allocation, big trends, safety) than making specific recommendations.
—Kris, on the other hand, is dedicated to finding the best punts. He’s at the “creative” end of “creative destruction” while I tend to hang out at the “destruction” end (looking for threats). Kris is after the small-cap shares that can go up three, five, 10 or 20 times based on a new product, a new technology, a new market, a new drug, or just a better way of doing something someone else is already doing (disruptive technologies that blow up the business models of established incumbents).
–Just keep in mind Kris embraces risk under the assumption you can bear it. If it’s not money you can afford to lose, you should probably avoid it. But if you’re happy to have a punt on a story he’s researched and a small business he believes could deliver big returns, have a go.
For years, we’ve been told about China being the land of a billion consumers, and how the growing middle class will consume to keep Chinas growth going, ad infinitum.
China grew because the developed nations abandoned manufacturing and instead made China the factory of the world, so we could all continue to buy “stuff” without any inflationary impact.
The more we consumed, the more China’s wealthy grew.
However, given the Western Worlds worlds consumers have taken an indefinite holiday am I now to believe that the buying power of Chinas middle class (the rest of their population still appear to be third world) will REPLACE, for want of a better phrase, the rest of the world?
I keep joining the dots and they all end in one place; that everyone’s in serious denial about the impact of a global slow down on Chinas growth, the subsequent impact on demand for raw materials, commodity prices and the devastating impact on the one-trick pony that is Australia’s resource based economy.
Am I wrong as (apart from the Markets and Money) no financial commentator seems interested in raising these fairly basic issues?
–No. You’re probably right. But what we may all have underestimated is China’s capacity to inflate and keep the growth story alive. Chinese inflation figures are due out this week. Overnight the People’s Bank of China again raised interest rates, trying to cool things down a bit. But when the reckoning arrives in China, it’s going to be a doozy. This is something all Aussie investors should have a plan for-the Big Red Bust. We wrote about this issue a year ago in “Exit the Dragon”. An update of that report is in the works.
I can almost swear I heard you in a previous incarnation say “There are people who think that all the government has to do is throw enough of (your) money at the problem and they can produce a) an atomic bomb b) a space craft that could fly to the moon c) a plane that could break the sound barrier”.
Yes, I know that some of these specific things are probably useless in your estimation. My point is you seem to claim in your extraordinary shoot-the-messenger criticism of Professor Garnaut that Governments can’t get anything done by spending on research – and the facts contradict you.
–Nice try Michael, but misleading. We did not “seem to claim” anything of the sort. We simply said Garnaut placed a lot of faith in a kind of “innovation on demand” to make up for the negative effects of his climate change policy. Pointing to a black box and saying, “and then the magic will happen in there” is not a realistic forecast for how technology can solve energy problems. It’s just a very well dressed up hope masquerading as a fact.
–As for your facts, well it depends on what you’re trying to point out. Yes, all those things did happen. But they were all possible under the laws of physics. The government concentrated resources (brains and capital) toward one objective and it happened. But all the objectives you mentioned where things physicists knew we’d be able to do eventually.
–Running an industrial economy while raising the price of energy (via a carbon tax) and then citing theoretical innovations in the efficiency of the transmission grid is a whole different kind of claim. Surely you can see that. Or are you being disingenuous?
–Since Edwin Drake drilled his first oil well in Titusville, Pennsylvania in 1859, the world has sunk untold trillions of dollars into building an economy that gets its energy from hydrocarbons. As our old friend Byron King once pointed out, the Industrial Revolution could more properly be described as the Energy Revolution. Why does that matter?
–You can’t easily switch from 140 years of fixed capital investment into an economy built on cheap and abundant energy. Any representation by any political party that a transition to so-called “green” energy will be easy, painless, and seamless is either naive or purposefully misleading. And there are certainly some people who think the planet would be better off if it shed a few billion people, reverted to a more agrarian lifestyle, and effectively deindustrialised.
–Hmm. So if deindustrialisation is a direct route to mass poverty and starvation…but Peak Oil is real…where is the world going to get the energy it needs to maintain and grow standards of living? That will give us something to think about until next time.
–In the meantime, send your own thoughts, complaints, criticisms, and invective to firstname.lastname@example.org
For Markets and Money Australia