First, in early March, the “yellow metal” hit its all-time high of $1,030 an ounce.
Just three months later, the price of gold for December delivery had plummeted to $681 an ounce, a 21-month low and 33.9% drop from its record high.
Most gold bugs were equal parts puzzled and brokenhearted. The world’s stock markets tanked, as did some of its biggest economies. In such an environment, they thought, gold should have risen. After all, gold is widely considered to be a safe-haven investment when everything else is spiraling south.
However, Money Morning Contributing Editor Martin Hutchinson understood perfectly what other investors did not.
“Gold is not a safe haven against recession,” said Hutchinson. “It’s a safe haven against inflation.”
In the past year, commodities prices skyrocketed – across the board. That was especially true of oil, which hit a record high $147 a barrel. Corn, wheat, and soybeans all hit record highs, as well.
That price escalation tightened household and corporate budgets, and was a primary reason why the U.S. economy posted a gross-domestic product (GDP) decline of 0.3%. With that negative growth, the third quarter was the beginning of what many experts believe will be the nation’s first recession since 2001.
However, the inflation epidemic has waned significantly, as global demand for raw materials has plummeted. Price for such staple foods as corn, soybeans and wheat have all come down from their record highs – in near-lockstep fashion.
Corn futures are down nearly 50% from their summer high of $8 per bushel. The same is true of soybeans and wheat, with each having lost roughly half their value. In fact, wheat hit a 16-month low in mid-October.
As most of us noticed, gas prices have fallen 48% from their July 17 high of $4.114 a gallon.
And not coincidentally, gold has fallen 22% in that same time frame.
However, this report examines the pending commodities rebound – a projected slow-and-steady increase in commodity prices that will reverse the breakneck plunge below fair value that commodities have experienced for much of this year.
Our objective now: To chart the expected path of gold prices in the New Year.
This report also reveals another wild card inflationary indicator that Hutchinson believes will carry gold prices to $1,500 an ounce by the end of 2009.
Two Catalysts For Gold’s Climb
The U.S. Department of Agriculture’s Oct. 10 Crop Production Report said acreage for a handful of staple food commodities has shrunk:
Corn acreage fell 1.2%.
Soybean acreage dropped 1.4%.
Canola acreage dropped 1.9%.
Sunflower acreage shrank 0.8%.
And acreage of dry edible beans fell 0.7%.
That naturally translates to higher prices because it squeezes the supply of the particular commodity. And it does so at a time when demand continues to escalate from populations in China, India and Latin America. And higher prices equal inflation.
But Hutchinson – who correctly predicted this last run-up in gold prices – says there’s another catalyst that’s right now inherent in the U.S. economy that could help vault gold prices to $1,500 an ounce by the end of 2009. And it has to do with the much-ballyhooed $700 billion rescue plan.
The philosophy behind the rescue plan is elegantly simple: By providing a portion of the $700 billion to foundering U.S banks, the Treasury Department believed it could provide banks with badly needed capital, and get them to start lending money once again – jump-starting the economy in the process.
Since September 2007, U.S. Federal Reserve policymakers have cut the benchmark Federal Funds target rate nine times – from 5.25% down to the current 1.0% rate – to increase bank-to-bank lending and bank-to-consumer lending.
“The government is pumping money in so many banks, and that money has to come out somewhere,” Hutchinson said.
Right now, banks aren’t boosting lending. Instead, they are using the cash to finance buyouts of other banks. Even so, that money will “come out” into the economy in the form of higher stock prices for banks. That will make consumer/investors wealthier, and could make them more confident in the economy. If they’re more confident, they will spend. As that happens, food prices should begin ticking upward, adding another set of thrusters to gold prices.
“Everybody thinks that because we’re having a horrible recession, we’re not going to have inflation. I think that’s probably wrong,” Hutchinson said. “I think gold has quite good hidden-store value.”
As gold prices increase, count on more investors leaving the sidelines to invest, too, causing the surge in gold prices to accelerate and steepen.
“As gold goes up, it gets more popular and investors start piling into it,” Hutchinson said.
And if gold gets anywhere near the $1,500 mark, sell. Prices that high will likely fall back or plateau as the Federal Reserve begins raising interest rates and strengthening the U.S. dollar, Hutchinson said.
Four Ways to Play Bottom-Basement Gold
Before we get too far ahead of ourselves, let’s first look at five ways to play bargain-basement gold prices.
The SPDR Gold Trust ETF (GLD) – formerly StreetTracks Gold – is a fund whose shares are intended to parallel the movement of gold prices. Since gold prices started falling along with gas prices, SPDR Gold Trust has stayed within a 0.5% margin of gold prices. This exchange-traded fund (ETF) eliminates any investor concern over storage and delivery while giving them exactly what they want – gold.
Toronto-based Barrick Gold Corp. (ABX) has 27 mines, mostly in North America and South America, and is developing or exploring 11 more. With a market cap of more than $20 billion, it has considerably more liquidity than most mining companies. Barrick is primarily a gold miner, but it also has copper and zinc mining operations. As far as investors are concerned, there are two ways to look at that: It’s not a pure play, per se, but then again, this is a company stock, not a bar of bullion. Also, having operations other than gold can help stabilize the company’s bottom line in case problems arise at a gold mine.
Denver-based Newmont Mining Corp. (NEM) is primarily a gold producer with operations in the United States, Australia, Peru, Indonesia, Canada, New Zealand and Mexico. Its reserves are hovering around 86.5 million ounces. Like Barrick, this is a mining stock play, and is subject to market swings – as well as fluctuations in gold prices. That can be a significant tailwind, especially if you believe the stock market has bottomed out or is close to doing so. Hutchinson – forever a value-oriented investor – warned that Newmont might be a little too pricey now. Investors may want to wait for the company’s stock price to settle before getting in.
Hutchinson thinks the best value for a gold mining stock can be found in Yamana Gold Inc. (AUY), another Toronto-based company that’s small now, but has rapidly expanding production.
