In this article, I will be discussing the future prospects for gold based on fundamental and technical factors. The four factors I will be discussing, I believe, will give a solid base as to why the price of gold should rise in the future.
Factor # 1: Central Bank Buying
A recent Businessweek.com article highlighted that central banks are still purchasing gold even as the price has continued to fall and hover around the $1600 level. In the Businessweek.com article, two statements lead me to believe the price of gold is heading higher, or at the very least keep a floor under the price. The first is “the World Gold Council expects central banks to remain strong buyers this year after increasing purchases in 2012 by the most in almost five decades.” The second key statement is on how much central banks are buying, “Central banks increased gold buying 17 percent to 534.6 tons last year, according to London-based World Gold Council.” While I could not find any hard numbers on expectations for central bank buying in 2013, what I did find was that according the World Gold Council: “We think that the current rate of net central bank purchasing, driven by emerging countries, is likely to continue to be very strong.” Therefore, using last year’s total central bank buying of 534.6 tons, and if the rate of buying stays the same at around 17%, I would estimate that central banks would buy around [(534.6*17%)+534.6]=625.48 tons in 2013. The statements and estimates point to the fact the central banks are still buying gold to diversify and to protect themselves from the current currency wars that are going on around the globe.
Factor # 2: Gold Miner Operating Expenses
With costs for gold miners rising, that could lead to production shutdowns, because mining will not be economical for gold miners at current prices. A recent Bloomberg article highlighted the increasing costs for gold miners in South Africa. The cost increases included are pay increases for workers, higher electricity costs, and higher taxes. The article states “Upheaval has plagued platinum and gold producers since August last year, when thousands of workers staged a series of illegal strikes, winning pay increases of as much as 22 percent.” Then the article also states, “Eskom Holdings Ltd., which supplies about 95 percent of South Africa’s power, is seeking 16 percent average annual tariff increases until 2018 to fund expansion.” So, think about that, a 22% increase in labor costs, and a potential 16% increase in electricity costs does not give a bright future for the mining industry in South Africa. Already the signs of the cost increases are showing up in the productions number from South Africa. According to the United States Geological Survey [USGS], South African gold production declined 6.08% from 2011 to 2012. Therefore, someone may ask the question why does South Africa matter? The reason South Africa matters is that using USGS data from the table below, South Africa accounts for 6.30% of global gold production, which does not seem like a lot but it really is when you see the amount of reserves that South Africa holds. The amount of estimated gold reserves South Africa holds is second to only Australia, and represents 11.54% of the estimated reserves the world has. There are two outcomes of the higher costs for South African miners; the first is that production will further decline thus lowering the supply of gold in the market, or prices of gold will have to rise to levels that it is economical to mine the gold even with the cost increases.
Factor # 3: US Debt Limit
The price of gold prices closely tracks the level of the debt ceiling, and can be a guide at determining when gold is overbought. The first chart from thereformedbroker.com below shows if the debt moves higher, the price of gold follows, and if the price of gold gets above the level of the debt [red line in the chart], then that is a signal gold is due for a correction. The way I use this data is simple; to get the level of debt ceiling to compare to the price of gold per ounce, I took the debt ceiling amount, and divided it by $10 billion. How I got $10 billion as the number to divide the debt by was simple, I took the debt ceiling amount and divided it by the price of gold. So the calculation is simple, $16 trillion divided by $1600/ounce gold price gives you $10 billion, which is the deviser for getting the equivalent debt amount to easily compare to the price of gold.
Debt Theory Formula: (Debt Ceiling Level/deviser)=Fair Price of Gold based on debt levels.
This theory can be easily applied by looking at the data for what the debt limit is, which can be found on the whitehouse.gov website. The link is good for when there is a passed debt limit, but currently there is no debt limit, so I would use the second chart below from TreasuryDirect.com, which shows the current debt that would be subject to the limit is around $16.7 trillion. Therefore, by using my formula and dividing the debt by $10 billion gives a fair price of gold at $1670/ounce.
Debt Theory Formula Using Current Data: ($16.7 Trillion/$10 Billion) = $1670 fair price of gold based on debt levels.
Looking to the future, another data set from whitehouse.gov shows the projection of the debt subject to the limit for the next 5 years, that data is in third image below in the table, and based on the government projections of the debt limit using my formula, in 2017 the fair price of gold will be $2131/ounce, which is about 33% above current levels.
|(in millions of dollars)|
Factor # 4: Gold Technical Picture
The chart below shows the price of gold has been in a long-term sideways channel since November 2011. It also shows there have been three occurrences where the price of gold has topped out near the $1800 level, and has been unable to break through. After each of the tops near the $1800 level, the price of gold then subsequently went down to around the $1525 level. Therefore, the long-term trend has been sideways, but the trend over the last six months has been strongly down, with strong resistance occurring at the downward sloping red line, which is in the chart below. There are three scenarios that I believe are possible based on the chart: first the price of gold looks to be heading back towards the $1525 level for another retest of the bottom of the long-term channel, if that level holds, the price of gold should rebound back towards the top of the channel. The second possibility is that gold could breakout above the downward sloping red line and could possibly signal a new uptrend back towards the top of the long-term channel. The third possibility is that the price of gold could fall below the bottom of the long-term channel support, and head even further lower. Based on the other three fundamental factors I outlined above, I expect gold will not break its long-term support level, or it will breakout above its downward trend line.
[Chart from TD Ameritrade’s Thinkorswim Platform]
Based on the four factors I have discussed, I believe gold is a solid long-term investment option that should be considered if the price of gold is less than the price based on my debt limit theory, which it currently is. Based on the technical chart I provided, it might be worth waiting and seeing if the price of gold holds long-term support, or breaks out above its trend line. If the price of gold does either of those two, I believe that, coupled with the fundamentals behind gold will lead to prices heading back towards the $1800 level of the next year. There are a couple ways to own gold; the easiest is by buying a physically backed ETF like the SPDR Gold Trust ETF (GLD), iShares Gold Trust ETF (IAU), or ETFS Physical Swiss Gold Trust ETF (SGOL). The second option if safe feasible storage is available is owning physical gold bullion, and storing it someplace, where you feel it is secure. A third and new option is buying the Credit Suisse Gold Shares Covered Call ETN (GLDI), which tracks the return of a portfolio of shares of GLD with a covered call overlay to provide an income stream, which other ETFs and physical gold does not provide.