Thursday, May 26, 2011

Gold priced in Australian Dollars about to soar?

I have mentioned in several previous posts that even if the US price of Gold lulls or pulls back I still expect the AUD price of Gold to perform well soon due to my expectation we will see the Australian Dollar fall against the USD (with the end of QE2 strengthening the USD and resulting in weaker commodity prices, pushing the AUD lower).

I am now even more convinced that we could be on the cusp of a significant move higher for the locally price metal, the magnitude of which could easily be several hundred dollars. 

Capital context provides the following text and chart:
The credit risk of the 30 most systemically critical financial entities in the world just broke an important channel and is at its highest in over four months at 135bps with its largest three-week rise of over 14% since Nov2010.

Before and during the financial crisis, we were crucially involved with the creation of several indices designed to track stability in financial markets with a focus on both liquidity and counterparty risk. While the liquidity measures we designed have been largely disintermediated by government intervention since then, the measures of counterparty risk remain highly visible and appear to have been a successful guage of public perceptions regarding financial systemic risk.

The Financial Stability Board created a list of 30 large global financial entities that represented to it the most systemically worrisome firms in the world. The chart above tracks a weighted average of the 5Y CDS (or credit risk) of these 30 names. The higher the index, the great the credit risk perceived among the world’s most systemically worrisome financial entities. The greater that credit risk, the more concern there should be for another round of potential insolvencies or collapse of the financial industry.

While the currrent level is certainly not in the critical zone, it is rising rapidly and is approaching key levels at which risk managers will begin to start evaluating CVA overlays in our opinion. A 14% rise in the index over the last three weeks is extremely fast and we note that at current levels we are almost twice as risky currently as were prior to the financial crisis and also at the trough post the financial crisis in Jan2010.
What's then interesting to note is how each of the peaks in the above chart correlate similarly with peaks in the Australian price of Gold as the below chart illustrates:

The cause of this is a combination of factors, but is due largely Gold holding steady or rising during times of systematic risk and the Australian Dollar selling off against the USD (combination stronger USD as a safety haven, weaker AUD).

With Greece and the other Eurozone countries once again hitting headlines it would not surprise me to see Gold buying in Europe increase like it did in early 2010:
For weeks buyers have been queuing patiently in the central bank's main downtown Athens office, prepared to shell out nearly €273 ($409) per piece, up from €243 at the start of May and €180 last July.

Persistent worries that Greece could default at least partly on its debts are emptying the Bank of Greece's vaults of at least 700 gold coins a day, giving a whole new meaning to the term sovereign debt. The Australian
Solid physical buying like the above (we are also seeing strong demand in India and China in early 2011) could provide solid fundamental support for US$ Gold reducing the severity of a seasonal pullback which we often see through the middle months of the year.

It seems the recent 'Pascoe Indicator' mentioned several weeks ago was almost spot on with Gold's bottom. In fact he even took another jab at Gold in an article a couple of days ago:
Gold in US dollars is up 28 per cent over the past year, but it's done nothing for Australian investors. As I write, it's trading at $A1,441.03 an ounce – within a few cents of what it was worth this time last year. It's still roughly doubled since the start of 2006 with 2008 the star year as the GFC had its full impact.

Where the speculation in precious metals goes to next is as much a matter of faith as fundamentals, or perhaps fundamentalist faith for the harder core gold bugs, but it has currency plays going for it as long as US economic policy remains an afterthought of a political standoff and Europe fails to face up to its sovereign debt inevitabilities. SMH
Pascoe suggests that Gold has done very little for local investors over the past year (which is true!), but he seems oblivious to the very real possibility that AUD Gold is about to significantly outperform it's US priced counterpart.

Even if we were to see Gold pull back a little to $1450 in US$, if we see the AUD dip at the same time to a level only seen around 8 months ago prior to QE2 at around .85 against the USD this would result in a local Gold price of over AUD$1700. Such a scenario is not beyond the realms of possibility and in my opinion pricing around these levels is somewhat likely later this year.

Don't expect Australian Gold stocks to follow the locally priced metal though, if history is anything to go by they are somewhat driven by sentiment from their US counterparts as we saw last year the XGD (Australian Gold stock index) didn't start to rally strongly until August even though we saw a higher local Gold price early in the year.

In summing up, it's the end of QE2, it's systematic risk stemming from Europe, it's a dicey Australian economy, it's Mabo, it's the vibe and --

No, that's it.

It's the vibe!**


Disclosure: Positions held in Gold. Not investment advice. Do your own research.
** Apologies to any readers who don't get the reference. It's a modified quote from well known Australian movie 'The Castle'.


  1. Just wanted to say how much I appreciated this post as I've been wondering if it is worth buying gold as an aussie.
    I've been reading Turd Ferguson, Trader Dan and Zerohedge. They all seem good but are very american based and i can understand their need to buy physical.
    With strong aussie banks, aussie savings interest rates at 6.51% and gold hardly moving, the bank has been the better safe bet v gold imo like pascoe said.
    I was too late into silver and its too volatile at the moment so that would of obviously been better than the bank!
    Your blog is the best aussie opinion on whether us aussies should buy up bullion like our american cousins are fervently doing. I've been reading it all year and it would be great if you could continue when you get the chance.
    Keep up the good work BB!

  2. Thanks Anon, it is hard to find Australian centric precious metals commentary. This is partially what led me to starting the blog. I will keep commenting here and there but will be cutting down significantly from a post every 2 or 3 days to only several per month for now.

    I agree the Australian savings rates are quite attractive at the moment given the options of a risky stock market and real estate market.

    While our banks look strong at the moment, if this house price correction continues it has the potential to heavily impact them like it did to the banks in other countries with falling prices.

    Gold may perform better in USD than AUD in the long run, but it has been trending up over time here as well and is due for a run.

  3. The USD just broke below the 74 handle and if you look into what Jim Rickards has been saying about how QE2 is not really "ending", then one could say the Aussie dollar might hold its ground (against USD, not gold necessarily).

  4. I've seen Rickard's explanation that reinvestment of maturing securities will allow the Fed to maintain their balance sheet but in my opinion this will not be enough to keep commodities and the markets booming. We'll have to wait and see. Further to this it's not only a weak USD which will push the AUD lower, we have our own problems!

  5. I'm not sure I understand your post about Australian Dollars and U.S. Dollars. All I know is that the price of gold for this year has dropped. I hope it goes down more so that I can buy my own gold coin. However, I don't want the scrap gold prices Australia to go down deep because I still want to sell my gold jewellery.