By Nick Barisheff
Keynote Speech Presented by Nick Barisheff at
the Empire Club’s 16th Annual Investment Outlook Luncheon
Thursday January 7, 2010.
Good afternoon. As always, it is a privilege
to speak at the Empire Club.
Each year for the past three years, I have
returned to share perceptions about the precious metals industry and
specifically about gold. Generally, this forces me to step back and assess the
previous year's events and then to speculate about what they may indicate for
the coming year. Choosing the seminal events this year has been more difficult
than usual. Lately the pace of gold-related news has accelerated exponentially
with gold’s rising price. While 2009 was an exciting year for gold, setting a
new average high of $1,088, 2010 promises to be even more exciting.
In 2009 gold resumed its historical monetary
role - as the anti-currency. Therefore, the influences and events that affect
its price are not simple commodity supply/demand fundamentals, but the more
complex global monetary issues.
To summarize some of the important key
events, I thought it would help to separate them into three categories.
First, there are the obvious events—those
whose implications for gold are self-evident.
Second, there are the events that require
some interpretation and, finally, there are the events that we might call
"incipient". These events and stories are in their early stages of development.
They may amount to nothing, or they may develop into tectonic forces that
completely disrupt the gold-related financial landscape.
It is more than a year since Wall Street made
some very bad bets that resulted in unprecedented losses, losses that were
passed on to the American taxpayer. For their incompetence and greed, most of
the company heads responsible were rewarded with generous severance packages, or
with new jobs commensurate in pay and status to the ones they left behind. Even
more surprising, perhaps, is that one year later many of these people continue
to advise the US government’s financial policy makers. My associate, trend
analyst Richard Karn, likens this particular situation to a group of chickens
getting together and consulting with the foxes about a problem that is plaguing
their community—the rapidly decreasing chicken population. Since the same key
figures remain firmly in charge of US fiscal policy, we can assume the status
quo will continue until the ship finally hits the iceberg.
So let's start with the obvious gold events
of the past year. It was the first time in 20 years that gold purchases for
investment purposes outpaced gold purchases for jewellery demand. However, in
terms of significance, central bank buying of gold this past year upstaged all
other events. For the first time in over 20 years, central banks became net
buyers rather than net sellers of gold. This is a watershed event.
India's central bank purchase of over 200
tonnes of IMF gold in the fall of 2009 demonstrated that large central banks
were willing to pay the market price for gold. This removed the concern that
official sector sales could cut short any meaningful rally. Although the central
banks have been selling less gold each year lately, the threat of IMF sales had
continued to weigh on the market. Russia and China further dispelled this fear
with the disclosure that they too have added 130 and 454 tonnes respectively.
Several smaller central banks such as those in Sri Lanka and Maritius also added
to their gold reserves. Therefore, central bank buying was clearly the
significant gold event of 2009 and will likely continue to be in 2010.
The next level of news events had
implications that might not have been so obvious at first glance. On October 6,
Robert Fisk, a veteran Middle East correspondent writing for the UK’s
Independent, published an article entitled "The Demise of the Dollar." The
article described how "Arab states have launched secret moves with China, Russia
and France to stop using the US currency for oil trading." Although the central
banks immediately rejected these rumours, the market treated their denials as a
clear admission of guilt and gold broke through year-long resistance at $1,020
an ounce into an entirely new trading range that day.
The Iranian oil bourse, which allows oil
sales in several currencies except the US dollar, is another indication that
this trend will continue. In addition, the US's greatest supporter of the
petrodollar, Saudi Arabia, announced that it would no longer trade oil futures
on the NYMEX. And on October 19 a related event occurred that received almost no
mainstream press coverage; in fact, the only mention I could find of this story
at first was at Al Jazeera Online. This was an agreement between ten member
states in Central and South America and the Caribbean to use the sucre rather
than the dollar for intra-regional trade. Venezuela, one of the West's largest
oil suppliers, is also a member of this new alliance.
This trend is significant to gold because,
since 1973, the US has been able to accumulate huge deficits thanks to an
agreement with OPEC to price oil in dollars exclusively. This system worked
until the 2008 financial crisis, which many felt weakened the dollar's inherent
worth beyond repair. The petrodollar experiment, which started in 1971 with the
removal of the dollar's peg to gold and continued in 1973 when the dollar was
essentially backed with oil, is coming to an end after only 36 years. However,
given the weakness of other currencies and the fact that no other paper currency
currently threatens to replace the US dollar, the process may take years to
complete. The end of the petrodollar’s hegemony, which is inevitable in my
opinion, will have significant implications for gold.
Another event whose implications may require
some extrapolation was the move by the Chinese government to encourage and
facilitate gold buying by the Chinese public. China watchers know the Chinese
have a long-term love for gold. In fact, on December 9, Reuters announced that
China had surpassed India as the world’s largest gold buyer, for the first time
in recorded history. The Chinese have also demonstrated a strong propensity for
saving. With their government making no secret of its displeasure with the US
dollar, and with few other safe investment options available, the Chinese public
could provide the fuel to move the gold price to new highs. One ounce purchased
by each of the 80 million middle-class Chinese would equate to 2,500 tonnes of
gold. It is important to remember that during the last gold bull, the Chinese
public was unable to participate. This is a story that definitely bears
Finally, in the third category, is the news
we might compare to the first spark of a match that either extinguishes
uneventfully or ignites a raging, out-of-control forest fire. Most of us in the
gold industry have discovered that we ignore these flickers at our own peril.
Many of the stories that started as hints or rumours a few years ago are now
accepted as fact. The first of these issues we are watching is the imbalance
between gold derivatives and paper proxies and the amount of physical gold in
existence. This is important because despite its best efforts, Wall Street still
cannot print gold.
Since almost all the gold ever mined remains
in existence and gold reserves and production estimates are monitored
meticulously, such discrepancies will show up faster in the relatively small
gold market than they might with other commodities. As Wall Street churns out
new gold investment vehicles, people are starting to do the math. If it becomes
apparent that financial institutions have sold more paper gold than actually
exists in physical form, then the price of paper gold and physical gold could
This year, many analysts began to apply
increased scrutiny to the gold and silver ETFs. In mid–July, hedge fund giant
Greenlight Capital announced they were moving assets out of the world’s largest
gold ETF – SPDR Gold Shares – and into physical gold. Greenlight is an industry
leader whose movements are carefully studied and often emulated. Although
Greenlight’s manager, David Einhorn, claimed it was cheaper to own and store
physical gold than it was to pay the ETF fees, the fact that a major,
industry-leading fund would move to physical bullion set off many alarm bells.
Since ETFs do not actually purchase their
assets, there is nothing prohibiting Authorized Participants from contributing
baskets of borrowed gold. The amount of borrowed gold held by ETFs is a matter
of speculation. With multiple claims on the bullion, ETF investors may suffer
unexpected losses under stress conditions when they need their gold the most.
So with these events of 2009 in mind, I am
often asked, "How high might the price of gold go?"
Let's look at some figures.
We know that the US must refinance at least
two trillion dollars of debt in 2010. They can raise this money in one of three
ways: through the sale of bonds, through increased taxation, or through
monetization by the Federal Reserve. Foreign investors showed decreasing
appetite for US treasuries in 2009. Rising unemployment along with an aging
population makes increased taxation a poor option. Therefore, the US Fed will be
forced to monetize the ballooning debt, further eroding confidence in the dollar
as the world's reserve currency.
This will encourage central bankers,
especially those of the developing countries, to accelerate their accumulation
of gold. Stephen Jen, a managing director at hedge fund BlueGold Capital and an
expert on sovereign wealth funds from his days at Morgan Stanley, estimates that
the percentage of gold held by the Chinese, Indian and Russian central banks is
just 2.2 percent. This compares with 38 percent held by Western central banks.
According to Jen, they would have to buy $115 billion dollars worth of gold at
current prices to raise their bullion to just 5 percent of total reserves, and
$700 billions' worth to reach just half of Western levels.
Along with many others in the gold industry,
we have noticed that fund managers are starting to buy gold as long-term
insurance, which they intend to hold for several years. By one estimate, if the
world’s pension funds and hedge funds moved only five percent of their assets
into gold, which these days seems quite conservative, gold would trade above
$5,000. With leading wealth managers such as David Einhorn, John Paulson and
Paul Tudor Jones allocating significant amounts of their portfolios to gold, the
process may have already begun.
In conclusion, the events of the past year
bode well for the price of gold in 2010. At the recent highs of $1,200 many
thought that gold was overbought. For those who feel this way, I would like to
close with some recent words from investment legend Richard Russell who said,
"If gold is going parabolic, then there’s no such thing as 'overbought'," Almost
any of the events of 2009 I have highlighted could trigger such a parabolic
rise. Right now the Chinese and Indian public, the non-Western central banks,
the sovereign wealth funds, the pension funds and the hedge funds of the world
are all looking for ways to increase their long-term gold holdings. The
pull-back from the recent highs of $1,200 seems to be over, providing an
attractive entry point for investors. In 2010 we will likely see prices rise to
at least $1,300 to $1,500.
It is important to understand that this isn’t
a typical bull market. Unless governments around the world stop creating massive
amounts of new money, the price of gold will continue to rise.
There is a famous investment axiom that
states, "Now is always the most difficult time to invest." To that I would add,
"But now is also the best time to insure the wealth we have accumulated is
protected through the ownership of gold."