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Jeroen is CEO of Blue Anchor Consulting, a Financial Consulting, Advice and Intermediation firm and can be reached at jeroen.thijs@gmail.com MONEY A modern day gold rush? In the May issue of your ADB magazine, I wrote about the investment opportunity in commodities in general. Since then prices have continued their relentless rise. For instance, I mentioned that silver had doubled since the commodities bull market began in 2001. Well, just slightly over a month later silver has actually now more than tripled since 2001, having risen 40% just over the past 2 months. The same story goes for gold, which has risen almost USD200 since the beginning of this year. Although we are now (mid May) in some sort of intermediate correction, which could take some time to play out, no one can predict what the price of silver or gold will be at the time of distribution of the June issue and I certainly don’t want to give it a go. I would not want to write every week about commodities, but I think it is a good idea at this stage, given current market developments, to look at one specific ‘commodity’, i.e. gold, study fundamental reasons behind the current rise and whether or not it is still a good time to invest in gold. The reason that I put the word commodity in inverted commas is that gold stands out from all other commodities, as its supply and demand characteristics are not driven by industrial use of the metal. Apart from jewellery, gold’s demand is, and has been for over 2500 years, driven by the fact that it is considered as a medium of exchange and the ultimate store of value. The history of gold as money spans from 700BC till about 1930AD. From 1930 till 1970 we had a paper-based system linked to gold and a mere 35 years ago, we abolished gold as any form of money. It is no surprise then, that the bulk of the current generation of investors or people working in the financial services industry in the west have a bad or no perception about the value of gold since the gold standard was abolished by president of the United States, Richard Nixon on August 15, 1971. After rising to about USD850 in 1980, gold entered into a 20-year bear market and bottomed at about USD250 in 2001. The perception was not aided by the fact that most central banks in the world engaged in an active and aggressive program of selling their gold reserves. For instance, Gordon Brown, Chancellor of the Exchequer, sold 60% of the UK’s gold reserves in 2001, the absolute bottom of the cycle! Although I leave it up to you to decide on his timing, it did not exactly create many gold-bulls in the investing community. How times have changed. Gold has since risen about 190% and it is only very recently that a small part of the investment community is starting to take notice. The bullish trend is now well established and the main explanations put forward are linked to the fundamental demand/supply situation, increasing inflation concerns, rising geopolitical risks and fears over the US dollar. Let’s look at them one by one. Demand and supply The World Gold Council estimates that mine production has been essentially flat since the end of the 1990’s and fell by 5% in 2004. Given the 20-year bear market in gold there has been massive underinvestment in new gold exploration efforts. Gold reserves are coming under pressure as existing gold mines mature and mining companies find it increasingly difficult to replace current production with new discoveries. For many countries it is not (yet) economically feasible to extract gold at greater depths and lower grades, and, once deep shafts close, they seldom reopen. With demand rising at an ever faster pace and central bank selling abating or even reversing (Russia and China are strong buyers for instance), the gold market is now in a deficit and this has lead and will continue to lead to a strong upward push on the price. On top of this many gold producers continue to de-hedge their books; an additional strong demand driver. 12 Vol.16 • No. 5 • June 2006
MONEY Gold has since risen about 190% and it is only very recently that a small part of the investment community is starting to take notice. The bullish trend is now well established and the main explanations put forward are linked to the fundamental demand/supply situation, increasing inflation concerns, rising geopolitical risks and fears over the US dollar. Rising inflation concerns Although the official statistics in the major world economies show that inflation is well under control, the actual numbers paint a completely different picture. Some leading economists argue that real numbers could be three times the official ones. One of the arguments is that the numbers are highly distorted by the concept of substitution. Introduced by Alan Greenspan, the concept argues that if one item were too expensive, consumers would substitute it with a cheaper one. This has obviously nothing to do with measuring the cost of living, as you cannot continue to substitute down. You would still want the best education for your children and live in the neighbourhood of your choice. It goes beyond the purpose of this article to examine real inflation figures, but I am sure that you are noticing in your daily life that your cost of living has increased by more than 2% per annum over the past couple of years. The official rate is often referred to as the core rate of inflation, which exclude the volatile energy and food components. This seems odd to me, as energy and food are basic daily needs. The latest monthly inflation number in the US showed a core CPI of 0.3% but gross inflation of 0.9%. The 0.9% is actually what you pay, thus an inflation of over 10% per annum. Gold is a perfect hedge against inflation. Although this might be difficult to measure over short periods of time (i.e. years), it is certainly the case over the past 90 years. Since the creation of the Federal Reserve in 1913, the purchasing power of the US dollar has fallen to just 5% (one twentieth), while over the same period gold has risen 35 fold from USD 20 to USD 700. Rising geopolitical risk I think that it is quite clear that since September 11, 2001 (coinciding with the bottom in gold), we are living in an increasingly unpredictable world. Iraq, Iran, Venezuela, etc. are not contributing to a more stable geopolitical environment. One of the drivers of gold during the months of April and May have been Iran’s intention to build nuclear facilities. Iran’s president is actively seeking alliances with large Muslim countries such as Indonesia, who seem to support Iran’s strategy. Moreover, in a recent letter to President Bush, which is interesting but concerning reading, president Ahmadinejad actually invited Bush twice to convert to Islam (if you want a copy of the translated letter, please send me an e-mail). Whatever the real intentions of Iran, it is clear that the recent run up in gold prices can be correlated for a large part to increasing global unrest. Fears over the value of the US dollar As mentioned before, history tells us that gold, not paper is real money. Most people don’t understand this. Let’s use as example the German hyperinflation in 1923. When Germany abolished the gold standard during the First World War, the cost of the war led to enormous debts. The German central bank had no choice but to print increasing amounts of money, creating at first wealth illusion through significant asset inflation, but subsequently to a weakening in confidence of the German mark and eventually to a collapse of the economy and rapid deflation. One ounce of gold was at that time worth USD 20 and twenty trillion Deutschmarks! Only people who converted their assets into gold protected their wealth. Could this happen to the USD? I could spend an entire article on this, but to summarize, the current deficit, rapidly increasing money supply, decline of the purchasing power of the dollar and the threat of Bernanke that he would print massive amounts of dollars in case of a looming recession (causing him the nickname ‘Helicopter Ben’), does not bode well for the future value of the US dollar. Moreover, Middle 13 Vol.16 • No. 5 • June 2006
Page 1: June 2006 MITA 373/03/2001 Book rev
Page 4 and 5: ADB BOARD Ivo Rutten President Fran
Page 6 and 7: BUSINESS PROFILE 20 years of servic
Page 8 and 9: SINGAPORE What’s in a (street) na
Page 10 and 11: Football madness hits the flora Eve
Page 12 and 13: Group Matches 2006 FIFA World Cup G
Page 16 and 17: There are many ways to invest in go
Page 18 and 19: Great Singapore Sale 26 May - 23 Ju
Page 20 and 21: EMBASSY INFO The Philharmonic Winds
Page 22: New Members Tjalling van Asbeck, Ad

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