Macro-economic factors still support gold as safe-haven asset

By Chirag Mehta - Fund Manager Quantum Gold SAving Fund

Gold prices saw a sharp sell off during the month of June 2011, but ended with an 11th consecutive quarterly gain. However, with the authorization of an austerity plan which involved budget cuts and asset sales to reduce the crisis in Greece, and to qualify for the bailout made by Greek lawmakers, Gold prices slumped as a safe-haven appeal at the end of the month.

Also, markets exited the US Federal’s bond‐buying program and since then, the Central Bank is yet to come up with additional monetary stimulus. Thus, with the plans of rescuing Greece from its crisis and with the end of QE2, gold was prone to a speculative sell off on lack of triggers to pull gold prices higher.


As measured by the London AM Fix, gold prices declined by -1.9% for the month. However, for the quarter ended June 2011, it’s prices increased by +4.9%.

Mixed set of economic data and the ongoing sovereign debt issues in the Euro zone led to increased volatility in the dollar and hence affected gold prices as well. The gold sell off began after the Federal Reserve's Open Market Committee (FOMC) meet boosted the dollar as Federal chairman, Mr. Bernanke avoided indications of future easing measures and commented favorably for the dollar. Additionally, efforts by Greece to stave off the Euro zone’s first sovereign default led to further selling. These factors along with technical selling aggravated the decline of gold prices.


Gold Outlook

The correction in prices coincides with the seasonal slack in demand. However, if the price falls further, we can expect gold purchases to emerge from traditional consumption centers despite the seasonal slowdown. Demand in India has been growing at 10% to 11% over the last year which in itself was a record year. China’s demand for gold will grow by at least 20% this year and is expected to double in the next two years, said Zhang Bingnan, deputy chairman of the China Gold Association. A key reason for a correction in gold prices is the long-term fundamental change in emerging markets as wealth increases and inflation stays high.


Outlook:
There does not seem to be much change for gold in terms of fundamentals. The sovereign debt issues have not been solved but instead, the possibility of a solution has been postponed by bailing out Greece as policymakers unveil one more rescue package. While it is a positive sign that austerity measures have been demanded along with the bailout, it is yet to be seen how much of it really materializes. Also, the US has avoided quantitative easing measures this time around but it has neither increased rates nor announced any exit strategies. It also remains to be seen until how long the Federal can keep up with this muted stance.


There could be a correction in Gold prices in the short term if the dollar appreciates further, and this could be an opportunity to buy gold. Gold is being seen as a currency and the macroeconomic factors still lie in favor of gold, making it stronger as a safe haven asset. The global economy is highly fragile amidst high risks, especially with the sovereign debt issues because of which investors are increasingly losing faith on paper currencies and are leaning towards gold as a security as they diversify from the paper money.


An outlook on gold by Australian Government agency, Australian Bureau of Agricultural and Resource Economics (ABARE)

Gold may climb 23 percent to average $1,500 an ounce this year, up from a March prediction of an 8 percent gain, because of concern over global budget deficits and inflationary pressures, an Australian government agency said. Prices may advance a further 3 percent in 2012 to average $1,550 an ounce, the Australian Bureau of Agricultural & Resource Economics & Sciences said in a report.


The report cites the following reasons that would buoy gold prices higher:
-Uncertainty about the ability of many developed economies to stimulate economic growth and control growing budget deficits is expected to encourage investment demand for gold as a lower risk or safe haven asset.


- Emerging inflationary pressures in some developing countries such as China and India, could also support demand.

- Investment demand for gold is likely to benefit from the perception that its value is eroded less by price inflation than are the values of other asset classes.

Gold demand from risk-averse investors is expected to remain strong as political and social unrest continues in some parts of the world, particularly the Middle East.