March 29, 2017

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Hold on gold

By Bhavin Madhavji, field credit analyst, Coface, the international trade credit insurance company

 In the early stages of 2017, the gold price has steadied after correcting during the previous year’s lows. Market sentiment is changing toward realising value in the commodity for the long-term on a global scale.

Global Demand

In the U.S, Trump’s electoral victory initially sent equities to a record high and sent gold tumbling on speculation that economic growth and interest rates will rise. The U.S Federal Reserve remains cautious in raising the US interest rate.

Fear over the US President’s protectionist trade policies have led investors to opt for investing in gold which is seen as an alternative investment in times of geopolitical financial turmoil. Prices are currently striking a two month peak buoyed by uncertainties surrounding the economic policies that could stifle growth and the weakened dollar.

The short-term perspective on gold has already recovered considerably, with over 5 percent of gains being realised in 2017 and 10 percent from its December low. The growing weakness in the US dollar could push the gold price higher. President Trump’s comments stating that the dollar is too strong sent the greenback tumbling to a six week low. A number of analysts have said that Trump’s fiscal push on infrastructure will be great for commodities such as gold and silver as inflation will drive prices and demand upwards.

With more than 55% of the global gold demand being accounted for in Indian and Chinese markets, activities in these countries have a direct effect on global trading volumes with reserves driving prices and demand.

In Indian markets the prime minister banned the 500 and 1000 rupee notes in the last quarter of 2016. These notes represent 20% of the cash value in circulation and 80% of cash outstanding. This was done to stifle the underground economy in India that runs on black money. Estimates are that the underground economy in India is about 20% to 25% of the total economy.

The most common method to convert black money into white money over the past 50 years has been too slowly buy gold by paying cash using large bills. This process has been a major source of demand for physical gold. During the time of the banishment, gold demand in India declined drastically. Estimates are that this demand will correct itself over time.

Seasonal gains are expected to filter through following the Chinese Lunar New Year as gold is traditionally purchased as gifts during this time.

Considering Asian markets, investors in the largest exchange-traded fund (SPDR Gold Shares) have bought 44 metric tons, helping to boost prices of the metal 4 percent to this two month high.

European markets are facing further uncertainty following Brexit as the French election is drawing to a close. Electoral candidates look to adopt policies which will see the French nation following in the footsteps of England in exiting the EU. Electoral candidates in the Netherlands share similar sentiments which could raise further uncertainties in European markets. Demand for gold during these times of uncertainties is expected to rise as investors look to diversify and secure funds in alternative commodities.

South African Gold Supply

South Africa has been one of the largest gold producers for over a century and has proudly been the source of one-third of all gold ever mined.  However, South Africa has dropped to seventh place in 2016. A combination of diminishing reserves, increasing labour costs, frequent stoppages and regulatory uncertainty has prompted major mining companies to rethink their presence in South Africa.

Recently, mining in South Africa has proven to be a tough operating environment with wage inflation constantly eroding margins. As the largest mining companies shift their portfolios elsewhere, investors are valuing South Africa-focused stocks more cheaply than global peers. The FTSE/JSE Africa Mining Index trades at 1.3 times book value, compared with 1.9 times for the Bloomberg World Mining Index. The measure for South African stocks has been at a discount to the figure for the global index for the past five years.

Local gold production declined by almost 50% to 144.5 metric tons in the decade to 2015. Labour costs, which make up a third of the industry’s overall expenses, almost tripled to R117-billion a year.

Gold price in ZAR: 5 December 2016 – 10 Feb 2017 

 

Recovery of the gold price is depicted by the upward trend of prices over the past two months. With demand filtering through and increasing short term prices, indicators show that investments in gold are likely to increase. Global market sentiment provides further support for this trend.

Despite the challenges, South Africa has sufficient infrastructure and has developed good technical skills in its long and successful mining history.  It still remains attractive where global mining capabilities are concerned and considering South African gold stocks are trading at discount, proves it be an attractive investment. Opportunities exist for South African mining companies to reinvest in the industry and take advantage of the developing shift in market sentiment as the demand for gold is on the rise in global markets.

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