Jeffrey Nichols: Gold Rally Will Pick Back Up

NEW YORK (Rosland Capital) – Gold’s nascent rally and positive price momentum was cut short this week as financial markets downgraded the sovereign debt of several European nations causing the euro to weaken – and, in turn, the appearance of a stronger U.S. currency once again weighed heavily on the dollar-denominated gold price. 

With this euro-debt downgrading now mostly priced into the financial markets, gold may soon resume its upward trajectory.

Importantly, portfolio rebalancing by index, commodity, and hedge funds weighed heavily on gold in recent weeks — but this has now likely run its course.  These funds were large-scale sellers of gold, mostly in futures and other derivative markets, late last year and into the early days of 2012. 

Heightened tensions in the Persian Gulf – with saber rattling by Iran – remain another possible influence on the gold price in the weeks ahead.  Watch the price of oil as any move much over recent highs (near $102 per barrel) could be enough to trigger another gold-price rally.  

News of strong Chinese gold demand — and record imports of metal from Hong Kong into Mainland China in recent months — has not only strengthened gold’s long-term fundamentals but, for now, it is giving investors around the world more reason to accumulate.  

Physical demand by the Chinese should remain strong for another week or so with the Lunar New Year beginning January 23rd and then could drop off, though perhaps only for a few weeks as the underlying factors supporting Chinese demand remain in place.      

As we have mentioned in the past, ongoing Chinese gold accumulation has important long-term significance — because little if any of this gold will come back to the world market, certainly not for many years.  Not only are gold exports from China illegal, but also Chinese savers and investors buy gold mostly with no intention of selling.  These are long-term, quasi-permanent holdings.  

Prospects of further monetary easing by the world’s three top central banks, the U.S. Federal Reserve (the Fed), the European Central Bank (the ECB), and the People’s Bank of China (the PBOC) are also becoming more supportive.  In each region, signs of slowing economic activity, unacceptable or worsening labor-market conditions, and continuing restrained consumer price inflation suggest that each of these central banks will press harder on the monetary accelerator in the months ahead.  As in the past, quantitative easing or other steps to raise credit availability by the Fed, the ECB, and the PBOC could fuel surprisingly big moves in the price of gold in the months ahead.  

Central bank buying was an important factor last year, effectively removing several hundred tons of gold from the market.  I expect central bank demand not only to continue but possibly expand further in 2012 with China and Russia leading the pack — and a growing number of countries underweighted in gold relative to U.S. dollar-denominated reserves joining in this official-sector gold rush.  

Jeffrey Nichols is Senior Economic Advisor to Rosland Capital – www.roslandcapital.com – and Managing director of American Precious Metals Advisors (www.nicholsongold.com)

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