Gold seen in powerful rally - Analysts point to leasing rates, short-sellers
By Thom Calandra, FTMarketWatch.com
Last Update: 8:00 AM ET Mar 12, 2001
LONDON (FTMW) - This is make or break time for gold after a two-decade decline for the precious metal.
"There are tremendous short positions in the market so it won't take much to spark a massive rally," said Larry Edelson, a former European gold trader and managing editor of Safe Money Report in Florida. An ounce of gold on Monday in Asia was selling for $273 an ounce, up $1.50. The metal has rallied this month after descending to $255, with lending rates for the metal as high as 7 percent.
Lawrence Eagles, a commodities analyst at GNI Ltd. in London, said the soaring lease rates, which are set in essence by central banks and other large holders of the metal that lend gold to dealers, indicate a "tightness in the market."
"To my mind there are lending institutions carrying on business as normal and there are a large amount of short positions in the bullion market and they are all looking to cover their positions," Eagles said. "And there isn't the supply around," he added.
Gold prices are getting a rare lift from institutions and producers that use derivatives to forward-sell the metal. Such forward-selling by mining companies such as North America's Barrick Gold (ABX: news, msgs, alerts) and South Africa's Anglogold (AU: news, msgs, alerts) locked in higher prices during a miserable, multi-year stretch of falling gold prices.
But as the price of the metal climbs, gold mining companies that hedge their production in this way - as well as speculators who short-sell the metal in hopes it will decline - must locate the physical metal for instant delivery.
Edelson and others cite resistance for the metal's price, whose major trading markets are London and New York, at $283 an ounce, $291 an ounce and $305. "Blasting through $301 would confirm that gold has bottomed and the 21-year bear market is over," said Edelson, who says as an arbitrageur with International Commodity Services in the early 1980s he traded as much as $175 million of bullion daily.
The Bank of England may also have assisted in gold's recent rally. The bank is one of several European central banks that sell gold regularly. Last week, it reduced its gold sales for the coming fiscal year by about 20 percent. The final 25-ton gold sale in the bank's current series is set for Wednesday.
Eagles said the bank's reduction was a "minor factor." The Bank of England has sold 250 tons since of the metal since fiscal year 1999. "Realistically, the Europeans have an arrangement to sell 400 tons of gold a year for the next five years," Eagles said.
The pact among European central banks is known as the September 1999 Agreement and was set to make the bank sales more visible to the gold market, which has languished even with jewelry and industrial demand for the metal rising in recent years. The Bank of Switzerland alone has a total of 1,300 tons of gold that it intends to sell, Eagles said.
Still, as author Peter Bernstein explains in his new book "The Power of Gold," central banks for centuries have sold gold when the price was low and hoarded the metal when the price was high.
Several economists, including Jude Wanniski at Polyconomics Inc. in the United States, blame the Federal Reserve for the languishing gold price. Wanniski in a recent report said general price deflation across the American economy - and the Federal Reserve's tight reins on the levels of money that member banks release into that economy - are depressing gold prices.
Economics lesson
"The deflation can only be fixed by having the government indicate it wishes to end it and also decide to re-balance the interests of dollar debtors and dollar creditors by adding liquidity until the gold price signals an appropriate level," Wanniski wrote.
Aside from the economics lesson, analysts say gold mining shares may be poised for a powerful rise if gold's price moves higher. For each 1 percent gain in the price of gold, gold mining shares generally move between 3 percent and 5 percent higher.
Edelson points out that unhedged companies such as North America's Homestake Mining (HM: news, msgs, alerts) have seen their shares lead a recent rally. Homestake does not forward-sell any of its gold production and so would have more to gain than hedged producers.
"Remember, it won't take much buying to send gold shares through the roof," he said. "The entire gold mining sector is about $30 billion market cap. So if just one tenth of 1 percent of the money coming out of equities scoop up some mining shares, the sky is the limit for mining shares, and gold bullion."
Indeed, many analysts expect the continued deflation of Nasdaq to boost gold shares. The Philadelphia Gold and Silver Index of North American mining shares has already risen steadily during Nasdaq's decline this winter to the 2,000 level. The mining index (XAU: news, msgs, alerts) , known as the XAU, has gained 19 percent in the past month.
"Homestake, Agnico Eagle, Placer Dome (PDG: news, msgs, alerts) have clearly turned the corner on the charts," said Edelson. "They have much higher to go."
Thom Calandra is Editor-in-Chief of CBS MarketWatch and FTMarketWatch.com.
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