Ask the expert: Gold

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Over the past five years the price of gold has risen from $250 per ounce to around $658 per ounce today, with strong demand coming from investors and consumers.

Gold’s price can be influenced by exchange rate fluctuations, geopolitical tensions or terrorism, with bullion seen by many to be the ideal financial safe haven. But with the precious metal still well below its 26 year peak of $730, hit in May, have its safe haven credentials become tarnished?

The World Gold Council fourth-quarter report released on Thursday showed that spending on gold hit a record $65.3bn last year in spite of a 10 per cent fall in demand in tonnage terms.

James Burton, World Gold Council CEO, answers your questions on what drives all areas of gold demand, be it jewellery, investment or industrial, as well as providing insight into the key gold markets of India, China, the Middle East and the US.

Q: How do you see China may influence the price of gold once their citizens are allowed to buy even small amount of physicals? Can their potential demand, in a certain sense, be comparable e.g. with India, where gold plays an important role in their culture? What do you see as a potential price driving wheel in the future: demand, inflation or safe heaven (geopolitical crisis)
Mariano Latta

James Burton: The process of deregulation in China has gone a long way and while some practical constraints remain in regard to investment products most of the previous barriers to gold ownership have now been removed. Yes, there has to be considerable potential for growing the market - consumption per head in China is the lowest of all major gold markets - but there are also challenges. We do not expect, and neither are we experiencing, immediate success. Gold jewellery faces considerable competition from other consumer goods and services (electronic equipment, holidays, beauty treatments, cars etc) many of which have much more marketing budget than we have.

To meet this challenge we introduced the concept of K-gold - this is 18-carat gold jewellery (traditional gold in China being 24-carat) with stylish designs aimed at attracting the younger urban consumer. This has met with considerable success; it accounts for an estimated 18 per cent of the Chinese gold jewellery market and has been responsible for most of the growth in gold jewellery buying over the last few years. Even so growth is steady rather than rapid. In summary, this is a challenging market, we think we have found a good way to approach it but it will be a good while before it will even approach the levels of demand we currently see in India.

As to your second question, all of the factors you mention can influence the gold price: the balance of supply and demand, inflation concerns (recently through its reaction to oil price movements), political issues. You should add the US dollar since gold often acts as a dollar hedge.

Q: Do you believe that a return to a type of gold standard is possible in the foreseeable future?
Thomas Pick Kitchener, Ontario, Canada

James Burton: No - the gold standard was appropriate to the second half of the 19th century but circumstances are now different. But this does not mean that gold no longer has a monetary role. It remains an important reserve asset for central banks since it is the only reserve asset that is no-one’s liability. It is thus a defence against unknown contingencies. It is a long-term inflation hedge and also a proven dollar hedge while it has good diversification properties for a central bank’s reserve asset portfolio.

Q: It has been suggested by some analysts that gold might see record highs at $850 in 2007. What would the impact of that be on jewellery demand?
Ross Norman,, London

James Burton: If the price were to rise to that level over a short period, we could expect to see a reduction in the amount of gold sold (as we did in the first half of 2006). However, our experience last year showed us that although the amount of gold sold was less, the value was greater, so consumers were still spending more of their hard-earned income on gold jewellery. Research shows us that this positive sentiment by consumers still remains, so we believe we would still see growth in value terms.

Q: If the markets would apply the law of supply and demand to gold shouldn’t the price of gold fall dramatically? Gold is processed to coins or jewellery but its not used like oil for example. And every year miners add to that pile of gold.
Reinhard C. Zechner, London

James Burton: It is often stated that all the gold ever discovered (around 160,000 tonnes) still exists: it could be argued that this is true of all elements. However key to this is availability of this inventory (i.e. does it ever come onto the open market?): only around 900 tonnes of “scrap” jewellery comes to market in a year, and central banks (who are the largest holders of gold bullion) sold around 319 tonnes last year. Gold mines produce around 2,500 tonnes, and this is the main source of available gold. Demand is around 3,500 tonnes, so actually latent demand has exceeded available supply for the past few years.

Q: If the main market for gold is jewellery, what’s the gold industry doing to stimulate consumer sales and why aren’t there more good marketing people in the industry?
Jack Harvey, London

James Burton: The main marketing effort for the industry is through the World Gold Council, which is funded by mining companies who represent around 40 per cent of the industry. This is supplemented by the WGC’s trade partners, who are mainly jewellery retailers and manufacturers. We’d welcome a lot more support from mining companies who are not members so we can make a greater impact on an increasingly competitive marketplace. I’d have to say there are some brilliant marketing people in the gold industry, most of them as hard-working and very effective staff in WGC offices around the world!

Q: Why doesn’t the World Gold Council bother to support any gold promotion campaigns in the UK? I see their features in the US and Middle East but never here. And secondly why not in Russia - where perhaps jewellery demand has seen the highest growth in years.The Goldsmiths Company does a fantastic job but is left with no assistance from the WGC. Why?
Richard, London

James Burton: Unfortunately, we have to prioritise where we spend our scant marketing budgets, and we focus on the markets of greatest impact for gold demand, which are USA, India, China, Middle East and Turkey, accounting for over 70 per cent of gold demand. With more marketing funds (see answer above re. funding), we would be able to do more in more markets such as the UK (which accounts for around 2 per cent of global demand)or Russia. We do some international promotion of gold via our website (which features several UK based retailers and designers of gold jewellery) and we support the Gold Bullion Securities “Exchange Traded Gold” ETF which is listed on the London Stock Exchange.

Q: Some of your members are companies that have a pretty poor track record or are involved in controversial projects, such as Newmont, Coeur d’Alene, and Anglogold Ashanti. I’ve read many news stories about opposition to their projects on environmental and human rights grounds. Do you have standards for your members that prohibit bad behaviour? If so, what actions are you taking against these corporate bad actors?
Akshay Rangnekar, New York

James Burton: As part of our commitment to advocating best practice throughout the gold industry, the World Gold Council provides a forum for education and dialogue that helps to address the sustainability issues faced by the industry and our membership. By expanding our membership we facilitate a broader participation by the gold mining industry in addressing these issues.

The World Gold Council (along with several of its members) is an active member of both the International Council on Mining & Metals and the Council for Responsible Jewellery Practices. Both organisations provide a platform for the industry to work continually towards sustainable development improvements in gold mining. These two organisations also contribute to the Initiative for Responsible Mining Assurance (IRMA), a multi-stakeholder group including WGC members, trade partners and NGOs, which aims to develop a process for the identification of responsible mining standards and a governance model for the assurance system.

The WGC endorses the policies of both the ICMM and CRJP to all our members, and support the aims of the RMAI. All of our members have extensive social and environmental policies which show their commitment to the highest standards. It is also important to take into account the broader positive economic and social benefits gold mining brings to many developing countries, for example how gold has become one of the most important exports for heavily indebted poor countries (HIPCs). If you’d like to read more about these, please see Trust in Gold website.

Q: Institutional investors have elected to diversify their portfolios by the inclusion of gold in the portfolios – do you have a sense of whether we are at the beginning of this or at the end?
Ross Norman,, London

James Burton: I believe this is very much the beginning. One could be forgiven, on the basis of media reports, for thinking that commodities in general have already captured a large share of institutional investment. But in reality the number of institutions that have a strategic allocation to commodities and the amount of funds invested is still small. We know of only 22 pension funds, endowments or foundations that currently have a strategic allocation to gold. The value of those allocations is around $28 billion, which is still a drop in the ocean in terms of total global pension fund assets.

Q: Gold price peak in 1980 was $850 an ounce, using inflation-adjusted numbers the same peak would be at least $2000 an ounce today. Don’t you think the recent real gold prices still look cheap compared to average gold prices of the last 25-years?
Marion Mueller, Madrid, Spain

James Burton: If you calculated the inflation-adjusted price of gold from the 1980s then gold looks “cheap” at today’s prices, despite the rally since the end of the bear market in 2001. Gold also has a long way to go if it is to catch up with the rally in other commodities, which has been much more aggressive.

Q: Over the next 6-12 months, to what extent do you feel the prices of silver and platinum will correlate to the price of gold?
Don Rhodes, Atlanta, GA, USA

James Burton: Based on the experience of the past year, I would expect the correlation between both gold and silver and gold and platinum to be similar over the next 6-12months, at around 0.75. We publish detailed correlations matrices for gold and other commodities, as well as gold and other financial assets (on a country-by-country basis) on our website each quarter.

Q: If I want to add some exposure to gold to my portfolio, am I better trying to buy gold directly (GoldMoney, BullionVault, etc) or via more synthetic routes (ETFs, structured products etc)? What are the pros and cons of each please?
Rob Hudson, Nottingham

James Burton: The appropriate investment channel depends on why you have decided to buy gold. For example, do you want a real asset that you can have available at all times or do you simply want exposure to the gold price because you believe it is likely to rise?

You also need to consider whether you physically want to take delivery of the gold or whether you want the gold kept with a custodian. How much gold you want to buy is also an important factor. Information on all the different types of gold investment products can be found on our World Gold Council website.

Q: If the equity and bond markets are strong and the future is rosy, why then is price of gold soaring after a 25 year slumber following its decline after peaking at $850 an ounce in 1980?
Varun Sood, Bangalore

James Burton:.Many investors are rediscovering gold for a number of reasons and it is this inflow of investors that is primarily responsible for the rising price. Their reasons for investing include:

A growing appreciation of gold’s portfolio diversification benefits since returns on it are not correlated with many mainstream assets

A number of political/economic factors are positive for gold: a consensus that the dollar could weaken (gold is a statistically proven dollar hedge); some fears over inflation (gold is seen as an inflation hedge) and ongoing concerns over global economic imbalances and political problems (gold is seen as a safe haven).

The fundamentals of the industry are generally considered strong – healthy demand and some constraints on supply. This has supported the price directly and has added to investor interest.

Q: Is gold just another commodity?
Conrad Judd, Auckland, NZ

James Burton: No. Gold has several defining characteristics that make it stand out from other commodities. Key differences include: first, that 89 per cent of gold demand reflects discretionary spending (jewellery and identifiable investment). This is unusual for a commodity where demand is usually driven by non-discretionary spending. This is true even for other precious metals, like silver and platinum, where only around a third of spending is discretionary.

These markets are mainly driven by industrial demand and are consequently more exposed to the vagaries of the economic cycle than gold, where only 11 per cent of demand comes from the industrial and dental sector. Second, gold has a long history as a monetary asset, a use that it retains today. And third, gold is virtually indestructible, which means that practically all of the gold that has ever been mined still exists; much of it in near-market form. This means the supply curve works in a different way from other assets.

Supply can be readily mobilised from central bank reserves or by recycling gold from the jewellery sector or, to a much lesser extent, the industrial sector. The ability to mobilise scrap quickly and easily is one reason why the gold price tends to be less volatile than other commodities.

Q: When do you estimate it will be possible to make gold via nano-technology, to build molecules from atoms? It seems likely that we someday will be able to make the materials we need from scratch.
Per Naess, Norway

James Burton: Like the other elements, it’s not possible to actually create gold from other atoms via nano-technology or any other method, despite the best efforts of alchemists over the centuries!

However, you can certainly turn gold metal into the form of tiny gold nano-particles (one nano-metre being one billionth of a metre) which opens up some exciting possibilities for new advanced industrial applications for gold. This is because gold nano-particles exhibit very different technical properties to bulk gold. So, for example, we are currently seeing gold nano-particles being used in medical trials for intravenous drug delivery of anti-cancer treatments.

Advanced electronics will almost certainly use gold nano-particles in future device and components. As well as offering the potential for additional gold demand in the future, these new uses also eloquently demonstrate what a unique and technically valuable material gold is. For more information on this you might like to take a look on our website, UtiliseGold.

Q: How would gold and gold stocks fare, in your opinion, in case of a severe world recession (or, even worse, depression), and why?
Gonzalo Bescos, Brussels, Belgium

James Burton: That would depend on the driver of the recession. The biggest risk to the global economy at the moment is arguably the twin deficits in the United States, which could still see the economy suffer a hard landing and result in a sharp fall in the US dollar. If this where to happen the gold price would likely rally, as gold has consistently proved itself to be an effective hedge against fluctuations in the value of the dollar and other currencies.

We have published a report on this (Gold as a hedge against the dollar) by three leading UK economists here on our website, which also finds that the response of gold to the dollar remains stable over time. Similarly, were inflation to cause a global recession, as has so often been the case in history, the gold price would also be expected to rally, as gold has also consistently proved itself to be an effective hedge against inflation. This is most recently borne out in a working paper published by the University of Stirling in 2000 (Short Run and Long Run Determinants of the Gold Price) also available here on our website.

Q: Which areas of the world do you believe will become emerging markets for the gold industry during the course of this year?
Adam Bushby, Canary Wharf, London

James Burton: We’ve seen strong growth in sales of gold in India (the largest market for gold in volume terms) for the past few years, and China and the Middle East (especially the Gulf states) continue to perform strongly. Research has shown us that demand in these markets will remain strong, with the main risk being excessive price volatility. The Russian market is also one to look out for in the next few years.

Q: With this year being the golden year of the pig - which only happens once every 60 years - are you anticipating a surge in demand from Asia or do these types of events only have a negligible effect on gold demand?
Kate Lalor, Canary Wharf, London

James Burton: The pig is a symbol of wealth and prosperity in China and directly, The Golden Year of the Pig will have a small positive effect on demand, mainly for commemorative products, which are mostly made of 24ct gold. On a larger scale it will hopefully have a “rub-off effect” and further improve the desirability and relevance of gold as a product category in China, which has been growing steadily for the past few years.

Q: How do you see the relationship between oil and gold prices evolving over the coming years?
Arnaud Humblot, London

James Burton: There is not, in my view, a natural direct relationship between gold and oil since the price drivers for the two are very different; if you look at the two prices over the long term you will not see any clear association. But when the oil price is high and rising, as it has been in recent times, then it can generate fears of inflation and also of economic disruption.

Gold is seen as an inflation hedge and as a safe haven and reacts to these fears rather than directly to the price of oil. This said, if market traders believe there is a relationship between the two, as has happened recently, then you will see one. I don’t think this will last.

Q: What is the biggest short term downside catalyst for the price of gold?
Andrei Garbuz, London

James Burton: A stonger dollar

Q: Given the current uncertainty about currency exchange rates with an extremely weak yen and a US deficit pushing down the dollar and also leading many dollar assets holders to diversify their reserves, do you think some countries might be tempted into stabilising their currency with gold reserves?
Arnaud Humblot, London

James Burton: We certainly feel that there is scope for some central banks with small proportions of gold in their reserves to increase their gold holdings. And we believe that there are some central banks considering that possibility in the context of their reserve management policies generally. Note though that gold is no longer used to back currencies directly – indeed countries which are members of the IMF are not permitted to do this.

Q Has selling gold by the US, UK and EU central banks been used to cover up otherwise inflationary policies? If not, why have they sold so much gold in the last 10 years?
James Sharpe, Cirencester

James Burton: The US has not sold any gold in the past 10 years. For historical reasons, a number of EU central banks have quite high proportions of gold in their reserves and have sold gold simply to rebalance their portfolios. Note that such sales are carefully controlled under the Central Bank Gold Agreement to avoid disrupting the markets and that in the latest CBGA year (which ran from September 27, 2005 to September 26, 2006) signatories sold 104 tonnes less than their 500 tonnes limit.

Q: In ancient societies the precious metals were used to manufacture coins and it was an acceptable mode of exchange and settling debt since they had intrinsic value in it. The development of banking system which resulted in the abandon of gold standard in the 20th century and if we take out the jewellery business which follows social trends the future for gold looks rather gloomy. What do you think?
Mohannad, Dubai

James Burton: Gold was originally used in the ancient past as a means of decoration and adornment. Its use as money came later (the first gold and silver coins were only minted around 550 BCE) - money itself, as we know it, is of course a relatively recent concept. We believe that gold still has a monetary role and it still accounts for 11 per cent of all central bank reserves.

But we also believe that the future for gold jewellery is excellent; as consumers get richer they will buy more of it, always provided they are offered the right product and it is properly marketed. We have had excellent results from our promotion efforts in a number of key countries recently.

Q: While most folks look at the historical price of gold in dollars, is it not important to look at it in terms of rupees or yen, since India and China are the biggest markets for the metal?
S Rao, India

James Burton: Indeed it is, and you will see on our website that we publish statistics on the gold price in a number of currencies including the yen and rupee. WGC also tracks statistics on a number more. This said, most of the principal markets for gold are countries whose currencies are linked, either tightly or loosely, to the dollar so we find that the US dollar is a useful approximation of price trends for gold buyers globally as well as being the currency used as a reference by financial markets.

Q: So-called gold bugs have floated conspiracy theories on how gold prices have been kept artificially low. Is there any truth to these theories?
KL Lee, Singapore

James Burton: We have seen no evidence to support these theories. And we note that the two companies which have done actual field research into the gold derivative markets – GFMS Ltd and Virtual Metals – have not found any evidence either.

Q: What will be the effect on goldprices if IMF decides to sell part of its reserves?

James Burton: The proposals suggested by the Group of Eminent Persons who reported on the IMF finances did not seem to cause any problems to the market – indeed as I recall prices rose immediately after they were published. To the extent that the sale is limited, and that the mechanisms proposed have been carefully considered to avoid disruption to the gold market I do not see any problem.

Note though that this is not a done deal – it requires an 85 per cent vote of IMF members for the plans to be put into practice and the US, which has opposed IMF gold sales in the past, has a 16.8 per cent voting share.

Q: Sir, I’m definitely not an expert but I was debating with my brother concerning gold investment about following issues. Gold has been a safe investment forever, at the same time depending on the health of some markets and trends it was more or less profitable to invest in different sectors and regions, I mean gold is safe but not always the most profitable investment.

Nowadays the situation has some peculiarities: first, the US deficit has reached some $850bn, no big actions seem to be taken to invert the trend, after all being big allows them to not give a damn (Kirchner did it with IMF, the bigger you are - mostly the bigger your debt is - and the more you can blackmail the others..i guess).

Second, Asian countries and especially China (its first commercial partner) seem to start having some bad mood about that and it looks at other currencies such as the Euro and I heard that they would like to increase, Asian countries in general, the gold deposits (1.4 per cent of reserves versus 15 per cent of EC Bank). Of course it can’t happen in a day, not even in a year, if they suddenly ceased using/buying US$ that would generate a collapse of US economy and consequently of worlds economy. That said, one day or another a lot of countries will start selling US$ buying (or other currencies) and gold. Wouldn’t you prefer some solid currency and precious metal for your retirement rather than toilet paper?

Third, US dollar’s used to rate Gold. If the US dollar falls down, will it affect also the metal value? In case that would be a contradiction as far as the nowadays panorama is concerned, but maybe only in terms.

Forth, oil revenues are no longer alluring and the crude is expected to fall down again. Anyway I guess those oil companies, with formidable revenues of the last years are now looking to diversify their assets. Of course with cheaper oil, economy should get healthier and by the way US economy seems to be in shape. But Im looking at the future and I think that gold will represent a very good investment and it will get increase its value in the few months and years coming.

Maybe up to $800...What do you think about that? I guess it has some logic and sense, even if I do agree that with gold it’s always hard to follow logic and common sense. That said, I like gold and I am going to buy it anyway.
Daniele Costantini, Italy

James Burton: Daniele you have considered a lot of salient points in your question and I am delighted to hear that you are planning to buy gold!

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