If they closed the books on 2016 tomorrow – precious metal investors would be celebrating a very happy year indeed. After ending 2015 as the most hated asset class on the planet, gold has trumped all over the last several weeks, currently trading north of USD $1250 and AUD $1700 per ounce.

The price in Australian dollars, up nearly 20% for the year, is even more extraordinary when one considers where the local currency is, with the Australian dollar sitting at $0.74 vs. the US dollar, testament to better than expected GDP figures down under, a bounce in iron ore, and the realization the Fed’s forecasts for stronger growth and higher rates in the United States were as inaccurate heading into 2016 as they were heading into 2008.

The performance of gold over this period has seen huge inflows into gold ETFs, strong retail demand (ABC Bullion turnover is particularly brisk right now), and an incredible change in speculative activity in the precious metal market, with managed money now aggressively long, whilst shorts have all but disappeared.

Indeed so strong has gold been of late that we’ve even seen the more ‘entertaining’ end of the finance media endorse gold investment, with Jim Kramer coming out and stating that every portfolio should have an allocation to gold and silver. Obviously we agree – though on a short-term basis, too much bullishness towards the sector makes us nervous, and we are more inclined to believe a correction can’t be too far away.

Interestingly, in the last few weeks we’ve seen commercials players, unlike speculative money managers, build up their short positions, suggesting they too see a potential breather ahead for the gold market, and a retracement of at least part of the recent rally.

But whether that pullback happens now remains to be seen, with no shortage of tailwinds supporting the precious metal market right now.

Our last market update (dated 12th February, we apologise for the delay in getting this report to you), which was titled “Gold: Nothing has Changed, Everything has Changed”, discussed the plunge in bank shares, the expectation that central banks would step to the plate to save the stock market.

At the time, we commented on gold’s performance during this ‘risk-off’ period for financial markets, with a focus on its role as safe haven and portfolio diversification tool. A month later, and it appears “everything has changed”, and no, we are not talking about the rise of Donald Trump, or the increasing chatter regarding a Brexit.

Rather, we are talking about the rally in equity markets over the past few weeks, with gold coming along for the ride.

Gold Rallies Alongside Risk Assets

One of the more interesting developments of the past few weeks has been the fact that gold prices have rallied alongside the recovery in equity markets. As discussed above, earlier in the year, it was purely safe haven demand pushing gold higher, as its defensive qualities in the face of major equity pullbacks reawakened investor appetite for the yellow metal.

But in the last fortnight or so, we’ve seen gold prices maintain their strength, even as equity markets have recovered ground. Indeed last week, we saw gold prices rise USD $50 per ounce, with the London PM Fix for the 4th March coming in at USD $1277.50 per ounce.

That is a great return, especially when one considers the green on the screens for equity market bulls last week, with markets around the world in a particularly buoyant mood.

In Australia, we saw the market close back above 5,000 points, up more than 4% for the week, whilst around the world we saw (cheers to Matt Felsman’s weekly update where I got this data from):

• Nikkei up 5.1%

• Hang Seng up 6.8%

• China up 3.8%

• German DAX up 3.2%

• UK FTSE up 1.7%

• US Dow Jones up 2%

Meanwhile the S&P 500 is back near the all important 2,000 point mark, and is within 7% of its all time high (so much for an equity market bloodbath when markets are within 10% of their all time highs). Matt’s weekly note can be found here for those interested, with some good charts on where equity markets could be headed next.

As a side note, whilst market cheerleaders are obviously basking in the risk rally of the last two weeks, evidence of how tough corporate America is finding it grows by the day. To that end, we were particularly interested in this article by Tony Sagami over at Mauldin economics, discussing how fancy accounting is allowing companies to over-report their real profitability.

In short, rather than report profitability based on generally accepted accounting principles (GAAP), more than 90% of companies are using adjusted pro-forma earnings, where they can hide ‘one-off’ costs like asset write-downs, costs of layoffs, etc.

The gap in earnings, depending on whether you measure them according to GAAP, or the pro-forma method favoured by companies, is significant, with company earnings based on GAAP nearly 13% lower than reported. It’s the widest gap since the GFC, and also means the stock market is nowhere near as cheap as many stock bulls would have you believe.

Be that as it may – the rally in equities is undeniable. Over the last few years, equity market strength like this, irrespective of how healthy its root causes really area, would almost certainly have seen gold prices stall, if not decline meaningfully.

The fact that gold actually strengthened last week, is testament to the changed sentiment toward precious metals, as well as the louder questions being asked about the efficacy of current (and likely future) central bank policy in the developed world. In a just released note to clients, UBS even commented on this trend, noting the break down in the negative correlation between stocks and gold, with the bank going on to note that; “With strong ETF inflows and specs buying, selling is absorbed readily and gold's strong run this year (YTD 18%) may continue to see legs higher.”

UBS also noted the somewhat lackluster demand coming from India and China. Rather than seeing it as a negative for the market, they noted that: “Weaker physical demand in traditional buying countries like China and India are less likely to dampen the gold rally as the buyers we have seen since start of the year have been from the West. If gold holds and moves higher from here, China and India will choose to move in and buy into momentum.”

UBS might be right that buying has eased from retail clients in China and India to some degree, though there is still support at the sovereign level, with China adding another 10 tonnes of gold to their foreign exchange reserves. That doesn’t sound like a lot, but if maintained, adds up to 120 tonnes a year from China alone, comfortably pushing total central bank gold demand into the 600 tonne region.

Back to the recent price action in metals and equities, and most importantly, the market moves from the last week or so tell us that being long-gold is once again no longer about being anti-equities. Rather, in the face of the unresolved economic challenges that the world faces, being long equities and long gold makes a lot of sense from a portfolio perspective.

Inflation may still be non-existent (officially) in the developed world, but fears over NIRP, ZIRP and more QE from the BoJ, ECB, BoE and even the Fed are clearly starting to be reflected in asset prices. Witness the crazy rally in iron ore prices since the start of the year as an example of this, with Australia’s most important export earner climbing 19% in just one day overnight, the largest move in history.

The resistance of gold not only to rising equity markets but also to stronger economic data when it comes out (like the better than expected headline non-farm payroll report on Friday out of the United States) is further evidence of this trend change toward the yellow metal, and how it is seen amongst institutional wealth managers.

Gold vs. Treasuries: Will Investors Sell Gold in the Next Crisis?

Whilst gold is recognized as a safe haven, it has still not replaced faith in the mighty United States Treasury as a ‘risk off’ asset in the eyes of institutional investors, with the imprimatur of Uncle Sam still the ‘go-to’ for the big end of town.

Evidence of this was contained in a Bloomberg article from mid February, which discussed the “fact” that US treasuries had outshone gold during the ‘risk off’ mood that engulfed Wall Street up until a few weeks ago. The article noted that, despite the rally in bullion, investors shouldn’t; “call it a gold rush: For those seeking safety in 2016, U.S. government debt is the undisputed haven of choice. The iShares 20+ Year Treasury ETF, which trades under the ticker TLT, has attracted more cash than any other exchange-traded fund in the U.S. this year, according to data compiled by Bloomberg. Investors have shoveled $2.9 billion into the ETF -- 30 percent of its assets -- in the fund’s longest streak of consecutive weekly inflows since its inception in 2002. It’s part of a flood of more than $12 billion into Treasury funds since Jan. 1, over three times the amount that’s flocked to gold ETFs.”

You can read that article here.

We think the article is over-simplistic, for to some degree it tries to make the case that one risk off asset class is better than the other, rather than recognizing the fact both gold and bonds can play a complimentary and positive role in a well-balanced portfolio.

The Bloomberg article also reminds us of a conversation we had with Assad Tanous (twitter handle @AsennaWealth – he is well worth following) over the weekend, where we discussed the potential for gold to sell off, in the event we have another GFC style event where risk assets decline swiftly and by a meaningful amount.

Whilst there is a good chance that could happen again, and the gold price could decline by 10-20% in a short period if investors are desperate to raise cash at any cost like they were during the GFC, we aren’t so sure it will happen again.

There are a few reasons for this, which include the fact that when the GFC hit, there were still positive real yields to be earned in traditional cash accounts, as well as sovereign debt. That is not the case this time around, with over $20 trillion of sovereign debt offering real yields of zero or less. The situation is just as bad with plain old cash. When the GFC hit, central banks slashed rates, but negative interest rates were not even being discussed.

Today – they are reality.

The final reason we aren’t so sure gold will sell off short-term when the next crisis eventually hits is that gold is now being seen, as per a UBS note from a few weeks back, as the ‘final financial hedge’. When the GFC hit, investors sought out the safety of sovereign balance sheets.

The next crisis could well be one caused by fear, or should I say a realization about just how unhealthy those sovereign balance sheets truly are. In that environment, we think gold will be the last asset investors want to sell.

The Death of Silver?

Several months ago, in late July 2015 - we published an article titled “The Death of Gold… or Not!”, which you can find here.

We wrote it in the aftermath of the Chinese national gold reserve announcement, which had disappointed bulls, and led to a wave of panic selling. Personally, we treated it as a buying opportunity, noting that “Those that have sold gold in the past few days (and there have been plenty in the ETF and futures markets) as a result of the “disappointing” number out of China may have just caused the capitulation event that typically marks the bottom of any bear market.”

With gold now trading more than 10% higher, back above USD $1250oz ounce – that article looks quite timely, but what is truly extraordinary is the fact that silver is still so cheap. Indeed when we published that article – we noted that the Gold to Silver ratio had hit 74:1 – indicating that silver was historically very cheap.

Well today – despite the rally in the metals over the past two months, the Gold to Silver ratio is over 80:1 – making gold about as expensive relative to silver as its been at any point in the last 40 plus years (super spikes notwithstanding).

To be honest, the lack of upside movement in silver is a bit of a worry for precious metal bulls, as it does typically outperform to the upside. We put the relative underperformance of the past seven months down to:

1. Concerns re slower economic growth

2) The broad sell off in industrial commodities

Considering silver’s quasi-industrial status – the above factors have no doubt limited price appreciation. Going forward, we are quite certain silver is just as alive as gold is.

I think we are going to look back at early 2016 as period of ‘great buying’ for precious metals as a whole, especially for those adding silver to their portfolio.

And with that, it’s time to take a look at the precious metal market from a technical perspective, looking at both gold and silver.

Let’s Get Technical

with John Feeney

With a record monthly inflow into Gold ETFs last month, it seems there is a bit more to this rally than the last few bear market bounces that we have seen for US dollar gold price over the past few years. As Jordan mentioned, the tide seems to be turning on the sentiment side, as faith in the Federal Reserve’s ability to normalize interest rates without some sort of financial market disaster is steadily eroding.

We have seen a convincing break through some key technical levels for US dollar gold this year on large volume and it gives us much greater confidence that the bottom of the market could have been the USD $1,030 - USD $1,050oz levels we saw in late 2015.

As we can see on the chart below a very important point for gold is the USD $1,200oz level. That is now a key support level we wouldn’t be entirely surprised to see on some sort of pullback. The chart does suggest that we are short term overbought on the as we can see the Williams oscillator is signalling overbought and the RSI at a pretty high level of 68.76.

What is interesting to note though is that gold has been teasing those punters expecting a proper pullback for the last week or so, but it simply hasn’t happened.

We even had strong numbers come out of the US non-farm payrolls which should see a spike in USD and a sell-off in gold. But alas, the yellow metal bounced back to close the US session at around USD $1,270oz. A pullback from here would actually be encouraging, as would a consolidation above the trend line marked in the graph. It remains to be seen what happens next, and note that some banks have forecasts out stating they see a continued move higher, with price targets above USD $1,350 an ounce. Were that to happen whilst the AUD weakens, then AUD $2,000 an ounce gold in 2016 may well occur.

Moving on from gold and it is safe to say that a lot of clients of ABC Bullion are asking about silver now, which Jordan discussed briefly above. Anytime the Gold to Silver ratio heads above 80, it’s bound to whet a contrarian’s appetite. Many see silver as highly undervalued relative to gold at the moment as it has not seen the same volume of buying this year. Yet.

From a technical point of view, the silver daily chart looks to have formed a rounding bottom pattern, and although a temporary pullback is on the cards the overall base forming pattern of the last few months looks quite bullish.

With the AUD at 74c and the gold/silver ratio around 80:1, the AUD spot price per kilo is $680. I personally don’t see these levels in the AUD price lasting much longer, as I think the price is fundamentally well oversold from a long-term perspective.

Like the previous gold chart, it’s looking increasingly likely that the late 2015 period marked the low in silver, with anyone getting in under USD $15 an ounce doing incredibly well.

We’d be buying any correction down toward that territory.

BlackRock Suspends Gold ETF

One of the stories that got particular attention in the gold space over the last few days was the news that Blackrock were TEMPORARILY (please pay attention to the capitalised bolded underlined emphasis) suspending the issuance of new Gold IAU ETF shares. Certain sections of the gold community were more than a little excited at this development, with one headline proclaiming the “Death of Paper Gold”.

Our thoughts on gold exchange traded products have been covered in the past in detail, so I won’t write a massive piece on them here. But briefly, they are less liquid than real gold, are more restricted in terms of trading, are often uninsured (read the PDS), are more expensive in the medium to long-term, and clearly involve more counterparty risk than real physical gold.

In short, whilst we see a role for ETFs a in a broader portfolio, we see little need for them in the precious metal space, considering the liquidity and ease of trading the real metal.

But, and this is a big but – the news by Blackrock does not in anyway signify the Death of Paper Gold, and there is definitely no shortage of real physical gold either. Some articles discussing the Blackrock news showed the following COMEX chart, implying the reason Blackrock have taken the action they have is because “there is no physical gold”.

Others have looked at the World Gold Council annual supply and demand tables, and then compared these to the inflows into all gold ETFs in the last two months (which are off the charts), and stated the math doesn’t add up (i.e. the ETFs can’t possibly have the gold they say they do), and there is some massive conspiracy in the gold ETF space.

This is the table I am referring to, with one analyst stating that; “According to the World Gold Council’s 2015 Full Year Demand Trends, the gold market suffered a 43 metric ton (1.4 Moz) deficit in Q4, even with a net outflow of Gold ETF’s of 69 metric tons (2.2 Moz),” They then went on to note that; “If the gold market suffered a 1.4 Moz deficit in Q4 2015 even with 2.2 Moz of supply coming from Gold ETF outflows, what kind of trouble is taking place now with just two Gold ETFs added 6 Moz to their inventories in just two months???  Folks, this translates to 187 metric tons of additional physical gold demand during JAN-FEB compared to a 2.2 Moz outflow last quarter. This is an amazing net 8.2 Moz change in Gold ETF demand in just the first two months of 2016 versus Q4 2015.  No wonder Blackrock had to suspend issuance of new shares.  We may be finally witnessing the REAL ENDGAME TO PAPER GOLD MANIPULATION.”

Well intentioned though this analysis may be – it has some flaws in it – for the simple fact that gold demand (i.e. purchasing from gold ETFs) can be met not only by the circa 3,000 tonnes of “new” gold that is mined every year, but also by the tens of thousands of tonnes of gold that are currently sitting in vaults the world over, and whose ownership changes hands on a daily basis.

Even here at ABC Bullion, we have seen a massive pick up in turnover in the first two months of 2016. A lot of that has been buying, though we have seen some investors lock in gains, happy enough liquidating their gold in the AUD $1600oz to $1700oz price range. Their decision to sell clearly adds to the supply of gold that can find a home in the portfolio of those who’ve decided to add bullion to their asset mix, a group we are certain will continue to grow in the coming years.

As such, whilst we are as convinced as anyone on the merits of precious metal investment, and the importance of owning real physical metal to protect and grow wealth in the coming years, we don’t think the Blackrock news in anyway strengthens the “investment case” for gold. Instead, as per the company statement (see below), it’s a temporary issue, caused more by the structure of the product itself.

Blackrock on Temporary Suspension of New Gold Trust Shares!

“iShares Delaware Trust Sponsor LLC, in its capacity as the sponsor of iShares Gold Trust (IAU), has temporarily suspended the creation of new shares of IAU until additional shares are registered with the Securities and Exchange Commission (SEC).

This suspension does not affect the ability of retail and institutional investors to trade on stock exchanges. Retail and institutional investors will continue to be able to buy and sell shares in IAU. IAU holds gold as a physical asset. IAU is an exchange-traded commodity (ETC), which therefore is not eligible for registration as an investment company under the ’40 Act. IAU may only be registered under the ’33 Act as a grantor trust. Under the ’33 Act, subscriptions for new shares in excess of those registered requires additional filings with the SEC.

Nearly all other U.S. iShares are exchange-traded funds (ETFs), registered as investment companies under the ’40 Act. The ’40 Act provides for the continuous offering of shares and does not require registration of additional shares as the fund grows due to investor demand in connection to new subscriptions.

Since the start of 2016, in response to global macroeconomic conditions, demand for gold and for IAU has surged among global investors. IAU has $8 billion in assets under management, and has expanded $1.4 billion year to date. February marked its largest creation activity in the last decade.

This surge in demand has led to the temporary exhaustion of IAU shares currently registered under the ’33 Act. We are registering new shares to accommodate future creations in the primary market by filing a Form 8-K to announce the resumption of the offering of new shares. The ability of authorized participants to redeem shares of IAU is not affected.

You can read the announcement here if you like, and it’s also worth pointing out this is no longer an issue, with Blackrock making the changes required within the last 24 hours.

Trifecta of Absurdity

Regular readers of ABC Bullion market updates will know that Bill Bonner, founder of Agora, is one of my favourite writers on all things economic, politics, and money.

In a late February 2016 edition of Bill Bonner’s diary, he discussed the latest developments in Japanese monetary policy, and the decision by the Bank of Japan to follow the European Central Bank by implementing negative interest rates.

Bonner rightly called it for what it is, noting that the whole thing is a “trifecta of absurdity. First, the money is phony. Second, the borrower is insolvent. Third, the interest rate is less than nothing.”

Whilst it will ultimately prove ruinous, we also have no doubt there’s plenty more of these monetary shenanigans to come. And on that note, whilst it’s easy to blame the Draghi, the Kurodas, the Yellens and the Jordans of this world (Thomas Jordan that is – he is the head of the Swiss Central Bank), the reality is that the problem doesn’t just lie in the ivory towers of these finance PHDs.

At its heart, the issue is political, with the entire developed world still unwilling to accept the basic truth that money can’t be worth nothing, and debt is not free. Whilst most of the time they are happy to play extend and pretend, there are some decent politicians out there who are trying to sound the warning about the direction we are heading. When this happens, they inevitably have to back track from even the hint of an unpopular policy proposal that would raise taxes or cut spending, for the backlash is immediate, and ferocious.

Sidetracking for just a moment, it’s worth pointing out we are seeing another example of the above in Australia right now, with the current debate surrounding negative gearing and our $6 trillion domestic property market.

Make no mistake, we are not personally a huge fan of the Labor proposal to quarantine negative gearing allowances to new builds, and especially not of grandfathering, but something needs to be done, less the housing market end up doing to this country what it did to Ireland and Spain.

It would be nice to think that policy proposals in this space, deeply flawed though they may be, would be the start of a bi-partisan and sensible discussion, that would lead to some real solutions, but instead we see grown adults (on both sides of politics) engage in name calling, tantrum throwing and dire warnings that have little basis in reality.

For the record, I’ve published my thoughts on the negative gearing debate here.

It would be funny if these same adults didn’t spend $25 out of every $100 that flows through the Australian economy, and regulate a great deal more of our economic activity.

Final Thoughts

Precious metals, especially silver, remain incredibly cheap today, especially for those who have a three to five or more year investment horizon, and who can stomach the day to day volatility.

But after a massive move to start the year, consolidation, in the gold market at least, would not be unexpected.

In truth we thought the market would have already taken a breather, and had a couple more corrective pullbacks, which we are still on the look out for.

For those of you who are already fully invested and happy with your allocations, then there is little to do but wait and watch the markets, safe in the knowledge that you already have the necessary protection in your portfolio.

For those newer to the market, or looking to increase your exposure – there is no need to panic buy – the market will be volatile the whole way to the top, with no shortage of corrections along the way.

The first and most important decision to make is what allocation to precious metals you want. From there, you can work out the breakdown of that allocation between gold and silver, as well as platinum and palladium if those also interest you.

It also pays to think about what structure you want to invest through (own it in your personal name, or through a company of a SMSF, for example).

When you are comfortable with the decisions you’ve made regarding the above, then it will be time to invest, though again this is something that you can do via installments, with there being no need to invest all in one go.

No matter what allocation you end up deciding on, we are certain you’ll be a more comfortable investor holding some precious metals in your investment portfolio.

Until next time

Warm Regards

Jordan Eliseo

Disclaimer

This publication is for educational purposes only and should not be considered either general or personal advice. It does not consider any particular person’s investment objectives, financial situation or needs. Accordingly, no recommendation (expressed or implied) or other information contained in this report should be acted upon without the appropriateness of that information having regard to those factors. You should assess whether or not the information contained herein is appropriate to your individual financial circumstances and goals before making an investment decision, or seek the help the of a licensed financial adviser. Performance is historical, performance may vary, and past performance is not necessarily indicative of future performance. Any prices, quotes, or statistics included have been obtained from sources deemed to be reliable, but we do not guarantee their accuracy or completeness.