Metals Markets in the Next Century
gptc.com
The role of the primary three metals (Gold, Silver, and Platinum) has changed dramatically in recent years. It used to be that in times of crisis, the precious metals would see "flight to quality" buying, as the metals markets were considered the only true store of value. But, in the "modern economy" the monetary role of the metals markets has been in a state of decline since former President Nixon uncoupled the U.S. Dollar from gold in the early 1970's. Prior to 1934, the United States Dollar was equal to 1/20th an ounce of gold, redeemable upon request. Except for a brief halt of conversions from dollars for gold during World War II, the United States Dollar was backed by gold under an agreement known as the Bretton Woods agreement. Under Bretton Woods, the United States Dollar, and other global currencies, were tied to a value of gold. From 1934 to 1968, this amount was $35/oz of gold. To protect the amount of gold held in reserve for protecting the dollar, it was illegal for United States citizens to own gold prior to President Nixon’s revocation of the Gold Standard. Upon revocation of the Gold Standard, gold became a popular investment medium, and the price rose from roughly $35/ounce to $800/ounce during the turbulent 1970’s. During these times gold took on the aura of being a "safe haven" of value against inflation and world turmoil, but this aspect to the metals markets faded as we entered into the 1980's..
The decline in the financial role of the metals markets has been increasing in recent years by several factors:
Deflation
Central Bank Selling
The Introduction of Financial Futures
Deflation, or the steady decline of prices in recent years has weighed heavily on the metals markets. Since the metals markets have always been tied to the inflationary cycle, like any hard asset (be it Corn, Cattle, or Wheat), the decline of inflation has made metals a poor investment in this type of environment because metals pay no dividend, earn no interest and must be stored at a cost. This has decreased the investment demand for metals, and has contributed to the multi-year price declines we have seen in recent history.
The deflationary environment has also caused Central Banks to "rethink" their Gold reserves. It used to be that nations held a specific amount of gold (or other metals) in reserve as a sort of pseudo-backing for their currency. The demise of the Bretton Woods agreement lessened this demand, though Central Banks continued to build reserves all through the 1980's, only at slower paces than their money supplies expanded. However, through-out the 1990's, Central Banks have rethought their reserves, and have opted for holding the currencies of other nations (such as U.S Dollars, Japanese Yen, or German Marks) as reserves instead of gold, as these currencies can earn interest and are more easily stored.
The increased use of reserve currencies instead of species has been magnified by the introduction of financial futures. In today's global economy, money can transfer via a push of button across the globe using financial futures. As such, during times of crisis and uncertainty, money has flowed between countries using financial futures instead of metals. Given technology and the transparency of financial markets, short term interest rate vehicles (like T-Bill's and Eurodollars) have become the safe heaven, stealing the role the metals markets had enjoyed in prior years.
The dynamics of the metals markets has shifted from a financial emphasis to an industrial one. The bulk of the demand for metals today comes from the industrial sector, not the financial sector. As such, the metals markets of today are best viewed in terms of supply and demand, not inflation and political crisis.
Using traditional supply and demand analysis and viewing the metals markets as an industrial demand driven market, it is not surprising seeing the current low prices. Mine capacity has increased in recent years, as well as the fact that many mineral rich nations in the former Soviet Union are now able sell their product on the world market. These dramatic increases in supply, coupled with Central Bank selling of reserves has depressed the price of metals to new decade lows.
The balance may be shifting though. Recent Industry statistics show that mine production is expected to decrease in the next 5 years, while Industrial demand is expected to increase. This factor alone should help improve the price of metals. Also, we have the specter of the year 2000 problem, which will probably be a major factor in 1999. Even if there is no problem associated with the New Century, enough media hype has been built up to increase the demand for metals as a median of exchange, given the fall of the electronic age.
Because the last 15 years have seen the demonitorization of the metals markets, and prices have been in a persistent down trend, the seasonal analysis on the following pages leans heavily towards short positions. This is worth noting, if the metals turn-around in 1999, as all of this analysis is based on data which has had a dramatic bias towards the downside. We do expect that the basic nature of the markets will remain the same, but the normal declines may be less severe in a "bull market" and the strong times of the year will be magnified, so seasonal analysis will continue to be a useful tool if the metals markets do turn around, though the analysis will have to be tempered with good judgement. |
