20th December 2009, 18:48

gulfnews.com/business/features/keeping-the-midas-touch-1.556007?localLinksEnabled=false

Keeping the Midas touch

Although gold coins and small bars account for a small portion of the precious metal market, analysts see them as a good indicator of investor appetite as both demand and price continue to rise

* By Javier Blas, Financial Times

* Published: 00:00 December 21, 2009

* Gulf News

All things for all people, everywhere. Or so says the motto of Harrods, the London department store. Except in jewellery, all things until recently did not include gold. But the store, heartened by the current rally in the yellow metal, now sells bullion.

Sales are ahead of our expectations, says Chris Hall, Harrods’ head of gold, as he shows a collection that ranges from tiny wafers of 5g, costing about $200 (Dh734), to a central bank-style 400 troy ounce bar valued at $480,000. People are buying several at the same time, he says of a bar costing about $38,500. Not one is coming back to sell.

Across the world, other retail investors — encouraged by a weak US dollar, the financial crisis and fears that central banks printing money will lead to a spike in inflation — have done the same, overwhelming mints and gold refineries.

Demand for 1oz American Eagles, the world’s most popular bullion coin, has been so strong that the US Mint ran out last month after sales hit a 10-year peak. In the first 11 months of the year it sold about 1.19 million oz of Eagles, up almost 75 per cent year-on-year. Dealers also report unprecedented demand for small gold bars, particularly in centres such as Zurich that handle rich investors.

Although gold coins and small bars account for a smallish portion of the precious metals market, analysts see them as a good indicator of investor appetite.

Big investors such as pension funds and hedge funds including legendary names such as Paul Tudor Jones of Tudor Investment and David Einhorn, founder of Greenlight Capital have also been enthusiastic.

Jones, whose company manages more than $11 billion in bonds, equities and commodities, told investors recently that it was time to buy the metal. I have never been a gold bug, he wrote, but added: It is just an asset that, like everything else in life, has its time and place. And now is that time.

John Paulson, another well-known hedge fund manager, has adopted a similar view, telling investors he was concerned about the dollar. So I looked for another currency in which to denominate my assets. I feel that gold is the best currency.

Buying frenzy

The buying frenzy pushed gold this month to a nominal all-time high of $1,226.10 a troy ounce, up 40 per cent since the start of the year, before shedding about $100. The level of interest in gold is now higher than at any time of my 25-year career in the precious metals market, says Jonathan Spall, a director at Barclays Capital in London and author of Investing in Gold: The essential safe haven investment for every portfolio.

So many constituencies are taking refuge in the classic commodity that its price surge is the symbol of the age: a store of anxiety as well as value. And it is not only gold. Silver, platinum and palladium have also seen strong inflows.

Sales of American Eagle silver coins, for example, have hit 26 million oz, the highest in at least 23 years. Investment vehicles backed by physical deposits of platinum and palladium are swelling, bankers say.

To be sure, the latest gains look rather less impressive if adjusted for inflation. In real terms, bullion would need to be well above $2,000 an ounce to match the price achieved in 1980. But the rise over the last 10 years is almost 400 per cent — bringing concerns that the metal may have become subject to unsustainable speculative demand.

Bubble

Gold is in a bubble, maintains Tim Bond, head of asset allocation at Barclays Capital, who says investors should prepare for a correction. Nouriel Roubini, the New York University professor who was among the few to predict the financial crisis, holds a similar view, warning of significant risks of downward correction.

In a new report entitled, The new bubble in the barbaric relic that is gold, he says: The only scenario where gold should rapidly rise in value is one where fiat [official] currencies are rapidly debased via inflation. At the moment, however, there are more deflationary than inflationary forces in the global economy.

How will gold buyers be able to tell when the top of the market is about to arrive? After all, gold is almost impossible to value beyond the cost of production, which today stands way below the current price. Apart from jewellery and small industrial applications, such as in electronics, gold has no use other than as an investment.

Warren Buffett, the legendary investor who has been a gold agnostic over the years, once said that bullion had no utility. He added: Gold gets dug out of the ground in Africa, or someplace.

Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. Buffett’s conclusion: Anyone watching from Mars would be scratching their head.

Investors, bankers, analysts and traders have yet to agree on what is gold’s fair value. Conventional methods applied to other commodities, such as crude oil or copper, to reach a valuation fail with gold. One critical piece of data needed to value commodities is inventories — and in the case of gold those are plentiful.

The world’s central banks keep in their vaults 29,700 tonnes of gold, enough to meet global demand — as measured by last year’s consumption — for the next seven and a half years. Other analysts rely on arbitrary ratios between gold and oil or the S&P 500 index.

In the past, when gold backed the US dollar, the valuation that mattered was the ratio between bullion and the amount of fiat currency that the US government had printed. The US — the world’s biggest holder — owns more than 8,130 tonnes of gold, while the Federal Reserve’s monetary base is about $1.7 trillion.

So the price of gold at which the US dollar would be fully gold-backed is currently around $6,300 a troy ounce, says Dylan Grice, of SociEtE GEnErale in London.

Another problem with gold is that, apart from its price appreciation, it yields no return. Bonds pay coupons; equities provide dividends. But in the current environment of extremely low interest rates, says Michael Jansen, European head of commodities research at JPMorgan, the opportunity cost of holding gold is very low.

That could change as soon as central banks start raising rates, which will increase the attractiveness of bonds or even cash. Gold, in normal interest rate circumstances, is a pretty expensive asset to hold, Jansen adds. It costs money in vault fees and insurance premiums.

SEE SITE FOR THE REST