Gold's new wings

Precious metals, led by gold, are set to break with base metals and drive a rebound in commodity prices next year.

By Rudi's View · 13 Dec 2006

By Rudi's View ·
13 Dec 2006

PORTFOLIO POINT: A sagging US dollar is renewing interest in gold. Some analysts are tipping prices of $US1000, even $US2000 an ounce.

There has been some evidence that OPEC nations are beginning to switch their reserves out of US dollars and into euro and yen. It is imprudent to hold everything in one currency and '¦ that will be the experience of the next few years.

' Alan Greenspan, former US Federal Reserve Board chairman

It is now OK to be bearish about the US dollar, as illustrated by the above quote taken from a speech made by Alan Greenspan earlier this week. Nearly everybody ' even former chairmen of the US Reserve Board ' believe the greenback is set to drop in 2007.

A recent note from ratings agency Standard & Poor's indicates a decline of 5% should be expected for the greenback in the year ahead because Asian central banks will be shifting some of their exposure into other assets and because US interest rates are expected to head lower from mid-2007.

Highlight Stocks
Amcor (AMC): Amcor organised an investor briefing on Monday. While management could proudly announce the global restructuring is running according to schedule, securities analysts were quick to point out it will be at least another 12 months before the company's earnings will see the first benefits. In addition, the share price is seen as rather "full" with speculators punting on a potential private equity approach, enough to cool down any enthusiasm among Australia's leading equity experts. The FNArena Market Sentiment Indicator now reads minus 0.5, which means Amcor has now sunk to the bottom of the market in terms of expert likeability.

Lion Nathan (LNN): Lion Nathan lost one battle but not yet the war. Management pulled out of the race for New Zealand's Independent Distillers because private equity groups were simply prepared to move beyond what Lion Nathan regards as reasonable pricing. The good news is this turns the focus on potential capital management initiatives. The not-so-good news is that the company continues to operate in low-growth markets. The consensus view in the market seems to be, 'Ah well, at least the potential downside appears to be limited for now’.

Macquarie Bank (MBL): Will 2007 be the year of Macquarie Bank? Some experts believe the odds are in favour of the deal makers at the Millionaires Factory again. A possible privatisation of Qantas is keeping everyone on his toes. JP Morgan notes the annual window of staff selling is over. Macquarie Bank has been one of the highest rated stocks in the market throughout the year. Time to deliver?

Singapore Telecom (SGT): Sentiment towards telecom stocks is improving again. Not just towards Telstra (TLS) whose T3 installment shares have surpassed everyone's expectations since their listing, but also towards stocks such as Singapore Telecom. Securities analysts are still concerned Optus is struggling with its margins in Australia. And with Vodafone seeking to enter the Australian broadband market, things may yet deteriorate a little further. SingTel's operations in Indonesia and India, Telkomsel and Bharti, are more than compensating for Optus's weakness at the moment.

BHP Billiton (BHP): Resources stocks are in for a volatile and possibly rather subdued couple of months, or so it would seem. Growth forecasts for the US are being scaled back on a near daily basis and several strategists are now pushing out a possible economic recovery into the second half of the year. This could well weigh on demand for resources, market strategists believe, even if China has now become the most important destination for the mining sector. Merrill Lynch downgraded BHP Billiton and Rio Tinto.

Others, such as Greenspan, point the finger in the direction of OPEC countries looking to diversify to safeguard their energy profits. For some of the currency market's biggest names ' such as the French bank Societe Generale ' a 5% decline seems too little; it is forecasting 7%.

Either way, most of these experts believe the US Federal Reserve will have to start cutting interest rates during 2007; it's a belief that is central to the bear case scenario for the US dollar.

According to Dutch-bank ABN-Amro, however, forecasting a weaker US dollar in the year ahead doesn't necessarily have to go hand-in-hand with expectations of falling US interest rates. ABN-Amro maintains the Federal Reserve will raise rates further again at the end of 2007; but the US dollar is going south nevertheless, it argues.

Most experts say the prospect of a weaker US dollar is likely to provide precious metals with an extra pair of wings next year. That’s why most commodity experts anticipate precious metals such as gold, silver and platinum will perform much better than base metals from here on; base metals such as lead and zinc should experience downward price pressure because of slowing economic growth.

Where other experts are calling for a top in the EUR/USD cross rate next year of $US1.40, from about $US1.30 this week, ABN-Amro economists believe it could surge as high as $US1.45.

Taking a current euro gold price of €485 an ounce, on currency conversion alone this would imply a $US705 price, or further upside of about 10% . (Gold is currently trading at around $US631.

ABN-Amro forecasts that gold bullion will average $US610 an ounce in 2006 and rise a further 11% to an average $US675 in 2007 and 2008.

Both Merrill Lynch and JP Morgan also upgraded their gold forecasts this week. Merrill Lynch’s 2007–10 forecasts for gold now stand at $US675, $US650, $US625 and $US600. (Note: analysts always built in a safety in their forecasts more than one year into the future. This does not necessarily mean gold is expected to peak in the year ahead.)

Similarly, Merrill Lynch’s 2007–09 silver price forecasts now stand at $US13 an ounce, $US12 and $US11.

JP Morgan’s revised gold forecasts cover the period from 2007 to 2010. Its average price forecasts are given in six-month periods, starting with the first half of 2007: $US645, $US665, $US640, $US640, $US590, $US590, $US580 and $US580.

Most experts would tell you the spot gold price is very likely to climb above the $US700 level again in the year ahead. However, a move towards $US800, let alone the 1980 record high of $US875, is seen as rather unlikely for the near term, notwithstanding some ultra-bullish commentators who’ve been calling gold at $US1000–2000.

The investment head of bond and commodities at PIMCO, Bill Gross, used an investment summit in New York this week to explain why: you need a world in a reflationary mode, as opposed to a disinflationary mode, to achieve higher gold prices.

In other words, investors have to start worrying about inflation again to give gold a really old-fashioned boost. Right now expectations of global inflation are in decline.

This is why gold’s fortune beyond 2007 might be closely linked to any developments in the energy markets. If the price of oil starts climbing again, as part of the expert community believes it will, (click here http://www.eurekareport.com.au/iis/iis.nsf/pages/E6A02719EE0080A4CA25723B007EAA67?OpenDocument), global inflation will start rising again and so make gold as an investment increasingly attractive.

Any scenario that sees the greenback weakening with little impact on broad risk markets will be generally positive for metals and US dollar denominated assets, analysts believe.