Zero Hedge is happy to announce a new collaboration with the precious metals experts at Gold Core. We look forward to posting periodic industry updates, notes, analysis and commentary in conjunction with GC on all matters of topical significance in the PM space. As an introduction, we would like to present GoldCore's review of 2010 and Outlook for 2011.
GoldCore Review of 2010 and Outlook for 2011, via GoldCore
Review of 2010
2010 was a year that many will be glad to see the back of due to the
deepening of the global economic crisis and the ensuing financial and
economic hardship visited upon many. Worst hit were the unfortunately
named PIGS with Portugal, Spain and particularly Greece and Ireland
suffering the wrath of the bond vigilantes, austerity measures and
deepening economic crises.
Currency Performance in US Dollars
Gold was again one of the top performing assets and currencies as seen in our currency tables in US dollars and euros.
Currency Performance in Euros
Bond, Stock and Commodity Markets
The belief that central banks controlled interest rates is
increasingly doubted and there is a realisation that bond markets are
the ultimate arbiter of interest rates globally. Concerns of sovereign
defaults in Spain, Portugal, Ireland and Greece saw interest rates
surge in these countries. This trend has not abated and recent days
have seen interest rates in Greece rise above 12.5% and Ireland above
US Government 10 Year - 1 Year (Daily). Performance in 2010: -11.9%
Indeed, informed speculation that the AAA rating of the US may come
under pressure due to their massive nearly $14 trillion national debt
and massive trillion-plus annual budget deficits saw US interest rates
rise sharply in the final three months of the year (see chart above).
Long term government debt has become far riskier which has important
ramifications for prudent asset allocation.
MSCI World Index - 1 Year (Daily). Performance in 2010: +9.47%
Markets saw considerable volatility, particularly currency markets
due to concerns about the dollar, the euro, sterling and the debasement
of currencies internationally. The fragile economic recovery and
continuing cheap money policies - near 0% interest rates and the latest
quantitative easing initiative (QE2) - led to continuing risk appetite
but also to growing concerns that inflation is beginning to get a
foothold in the global economy. This led to stock markets and commodity
markets internationally having positive performances (see chart above
Commodity prices rose gradually in the second half of the year and
the Thomson Reuters/ Jeffries CRB rose by 15.4%. Copper was
particularly strong – up 28% and oil rose by 6% (NYMEX +6%; BRENT
Thomson Reuters/ Jeffries CRB - 1 Year (Daily). Performance in 2010: +15.4%
Soft commodities and the price of basic foodstuffs such as wheat,
corn, and sugar all rose as markets reacted to extreme weather events
such as fires in Russia and floods in the US and Pakistan. Wheat prices
rose 49pc over the year, corn was up 50pc, soya beans rose 35pc and
sugar added 28pc. Cotton prices nearly doubled in the year due to high
demand and restricted supply.
While nearly all commodities rose strongly in 2010 and are near
record nominal highs – it is very important to realize that these are
record nominal highs from more than 30 years ago. This means that the
gains may well be sustainable as most commodities remain a fraction of
their inflation adjusted price of more than 30 years ago.
The platinum group metals of platinum and palladium were strong.
Platinum rose 19.4% to $1746/oz and palladium surged 94.2% to $790/oz.
Both remain below their record highs of 2008 and 2001 respectively at
$2166.50 and $1110.50/oz.
Gold in US Dollars - 1 Year (Daily)
Gold and Currencies
Sovereign debt, currency debasement and inflation concerns led to
continued safe haven demand for gold internationally and to gold
recording its 10th consecutive year of rising prices. Gold rose some
28% in US dollar terms, 34.5% in sterling terms and 38% in euro terms
and by similar amounts in other major currencies. The strongest
currencies in the world in the year were the Japanese yen, Australian
dollar and Swiss franc.
This shows how the price of gold is not rising per se rather fiat
currencies are losing purchasing power and being devalued
internationally. This increases the attraction of precious metals and
hard assets that are finite and cannot be debased as inflation hedges –
especially gold and more volatile silver.
As we suggested would happen, silver surged in 2010 and rose 81%.
However, it remains more than 35% below its nominal high of 1980 at
$50/oz (weekly close $49.45/oz – see chart below). The nominal high of
1980 remains a very viable long term price target and should 2011 see a
repeat of 2010 then silver will surge past the 1980 high as gold has
already done to its 1980 nominal high.
Silver in US Dollars – 40 Years (Weekly)
Outlook for 2011
Last year we correctly indentified sovereign debt risk particularly
in the Eurozone and a real risk to the euro as a reserve currency and
to the euro itself as key themes to watch out for in 2010. These risks
remain and have actually deepened in the final weeks of 2010.
The outlook for asset class performance in 2011, as ever, depends on
what global macroeconomic conditions the world experiences. 2011 will
be guided by the fundamental US macroeconomic situation, the outlook for
the US dollar, the euro and the international monetary system and the
health of China's economy will also be important. As ever, whether
deflation or inflation prevails will be of primary importance.
Other big picture global macroeconomic factors that could become important in 2011 are:
Global Macro – Inflation or Deflation
Crystal ball gazing based on future conditions remains foolish -
particularly given the degree of uncertainty with regard to possible
deflationary or inflationary global risks.
Gold in EUR - 1 Year (Daily)
As ever, the titanic battle between deflationary pressures and
inflationary pressures continue. The extent of deflation experienced in
most economies has been exaggerated. It is often used by uber-
Keynesian economists and governments as an excuse to print and spend
Deflation in most western economies has been confined to property
markets and consumer purchases such as cars and other expensive
consumer items such as electrical appliances etc. Deflation has largely
been seen in goods and assets that are debt based or have been
purchased using credit. The lack of credit or tightening of credit has
led to falling prices. These are healthy and necessary adjustments – as
many property markets remain well above their long term average and
average house prices remain unaffordable to those on average industrial
The price of essentials such as food and energy have not fallen in
recent years and many have risen this year and there are growing
inflationary pressures being seen to different degrees in economies
Should the US and the global economy experience a double dip
recession there could come another bout of deflationary pressure
particularly in vulnerable property markets. This could lead to
weakness in equity and commodity markets which would again contain
inflation for a period. However, dollar debasement and international
competitive currency devaluations should see commodities remain robust
especially given the increasing strong supply demand fundamentals of
World Bank President Robert Zoellick
Global Currency Wars
The initial skirmishes of what is being called a ‘global currency
war' have been seen in 2010. These currency wars involve competitive
currency devaluation and currency debasement as governments and central
banks internationally devalue their currencies in order to maintain
job sustaining export growth and maintain fragile economic recoveries.
The importance of the currency crisis is not realized by much of the
media and the man in the street yet. But it is clearly seen in the
fact that World Bank President Robert Zoellick reaffirmed his proposal
to use gold as a "reference point" to reform the current international
monetary system. Senior policy makers are worried about the dollar's
ability to remain a stable reserve currency. Zoellick said a return to
some sort of currency link to gold would be “practical and feasible,
not radical.” Zoellick's article in FT came three days after Ben
Bernanke's announcement of QE2.
U.S. Chinese Tensions
Besides the risk of currency wars, there are also geopolitical risks
as the relative power of the US and China, lessen and increase
Yesterday, China's defense minister says his armed forces are
preparing for conflict "in every direction," and that times of peace
should not dissuade the military from readiness. Chinese defense chief
Liang Guanglie told state media that over the next five years, "our
military will push forward preparations for military conflict in every
strategic direction. "We may be living in peaceful times, but we can
never forget war, never send the horses south or put the bayonets and
guns away," he said.
His comments come ahead of a visit to China by U.S. Defense Secretary
Robert Gates, who is expected to address U.S.-China military relations
as tensions flare on the Korean peninsula and Taiwan, a U.S. ally,
remains on Beijing's radar. There is also the delicate issue of Tibet.
While there is little risk of a direct military confrontation
between the superpower and emerging superpower, there is a risk of war
being waged through proxies and of economic war involving economic
protectionism and currency wars.
China's Increasing Importance to Gold
2010 will be remembered as an important year in the process of China
becoming a dominant economic power and it was also the year that
China's growing importance to the gold market was realized.
Gold is deeply rooted in the psyche of the Chinese people. Gold is
considered a symbol of prosperity and good fortune in China and a means
to increase and preserve one's family's wealth through the
generations. This comes from a powerful mix of cultural, social and
economic associations. Gold's importance has been augmented by the
country's experience of totalitarian government.
Just this month came news that China should consider adding to its
gold reserves as a long-term strategy to pave the way for the yuan's
internationalization. So wrote central bank adviser Xia Bin in the
influential China Business News. Premier Wen Jiabao said in March he is
"worried" about holdings of assets denominated in the greenback. The
country must revise its foreign-reserves management principle, Xia
Building gold as the basis of solvency has been used through history,
PBOC adviser Xia wrote. Having a corresponding amount of solvency is a
necessary precondition and indispensible safeguard in the long-term
strategy for the internationalization of the yuan, Xia wrote. China
should raise its gold holdings and the 1,054 tons of reserves are
inadequate compared with the 8,133 tons held by the U.S. and 3,408 tons
by Germany, Meng Qingfa, a researcher at the China Chamber of
International Commerce said in October.
China is the world's largest producer and second-biggest user of
gold and has a world-record $2.65 trillion in foreign-exchange
reserves. Gold accounts for only 1.6 percent of the nation's reserves
held by the People's Bank of China, according to the World Gold
Council. The country increased gold reserves by 454 tons to 1,054 tons
since 2003, the State Administration of Foreign Exchange said last
Thirty years ago China held 95% of its foreign reserves in gold.
China's gold reserve of only 1.6% of total reserves is a figure well
below the average minimum 3%-5% adopted in many other countries. China
with an estimated gold reserve of 1,054 tonnes has a fraction of that
believed held in the U.S. and many analysts believe that China will
gradually try to increase its reserves to the levels held by the U.S.
It is often forgotten that the Chinese gold market was only reopened
in 2002. That was the first time in over 50 years (since 1949) that
Chinese individuals could buy gold in either jewellery or bullion
According to the World Gold Council China's per capita consumption
of gold remains the lowest amongst the emerging Asian economies. For
China to consume as much gold as say India, which many observers
believe likely over the long term, consumption would need to rise by
In China, consumer price inflation is now running at 5.5% (according
to official statistics) and yet deposits only yield some 2.5%. Until
real interest rates offer Chinese savers a real yield and are not
negative, Chinese demand will remain strong.
Increasing Sovereign Risk
Jitters abound in government debt markets about the massive issuance
of government debt in 2011 – starting in January 2011. Dubai, Greece
and more recently Ireland have been the first sovereign casualties and
there is a growing risk of contagion particularly in the Eurozone.
Besides Greece and Ireland there are many other countries in the EU
facing possible sovereign debt crisis – including Portugal, Spain,
Italy and Belgium.
Contagion remains the real concern and there is a real risk that
these periphery economies are canaries in the coalmines and herald
coming problems for larger industrial nations such as Germany, Japan,
China, the UK and the U.S. So far their markets and economies have
maintained fragile economic growth and their bond markets have not
suffered the sell offs seen in the weaker Eurozone nations.
Unfortunately, there are many more countries with poor and
deteriorating public finances – including some of the leading AAA rated
industrialized nations – with even the possibility of downgrading of
the sovereign debt of Japan, France, the UK and the U.S.
Gold in GBP - 1 Year (Daily)
Should this happen long term interest rates would likely rise from the unsustainable record low levels seen today.
Rising Interest Rates
The prospect of a possible rise in interest rates in the second half
of 2011 is quite real. This may be necessary to protect the value of
the dollar and other fiat currencies and contain inflationary pressures
that are emerging.
The markets have become addicted to cheap money and eliminating this
dangerous narcotic may cause serious withdrawal symptoms with obvious
ramifications for already vulnerable residential and commercial property
European Economies and the Euro
The Euro looks set to experience its first major challenge as
increasing Eurozone debt and sovereign default risk (Greece etc.) could
see the single currency come under pressure. There are some who would
welcome a fall in the value of the euro so that European economies can
compete for exports with the UK, the US, Asian and economies
internationally. However, there is a risk of a disorderly adjustment
and a currency crisis. Hopes that the Euro would supplant the dollar as
the global reserve currency are gone.
Falling commercial property prices and yields and the huge
liabilities in this sector (particularly in the UK and US) continue to
pose real risks. This could easily lead to the next phase 0f the global
financial crisis and could pose a risk as great, if not greater, than
that of the subprime meltdown, and poses real risks to many banks
solvency which could lead to further credit and systemic risk.
US Economy and US Consumer
As ever the strength of the US economy will be important to the
global economy and the performance of asset classes. The US economy
remains highly dependent on the buying habits of the pressured US
consumer who remains heavily indebted.
2011 could be the year when the Chinese economic miracle comes into
question. Is the massive economic growth in China real and sustainable
or based on bogus and adjusted economic statistics and cheap money and
stimulus? Some question the ability of the Chinese authorities to
manage an economic contraction similar to those faced by many western
Geopolitical risk from terrorism and war remains high with Taiwan,
Venezuela, Afghanistan, Pakistan, Israel and Iran and the Koreas some of
the potential flashpoints.
Gold Inflation Adjusted Index - 40 Year (Quarterly). The 'Bloomberg
Composite Gold Inflation Adjusted Spot Price' is derived from the
monthly US Urban consumers price index
Black Swans in 2011 and 2012
War in Middle East - Global Flu Pandemic - Large Volcanic Eruption -
European Sovereign Default - Crack Up Boom and Hyperinflation
War in the Middle East
Tensions between Iran and Israel and the U.S. could lead to a
military incident (akin to the recent flare up on the Korean peninsula)
that degenerates into a regional conflict in the Middle East.
Just this week the US imposed new sanctions against Iran, in a move
that highlights Washington's drive to keep pressure on the Islamic
Republic ahead of a new round of negotiations with Tehran in January
2011. The recent announcement by the Treasury department shows how the
US is now using sanctions to affect Iran's overall economy.
Yesterday, the FT reported that US officials are worried Iran could
use new technology in coming months that would shorten the time needed
to reach nuclear weapon status and reduce the scope for diplomacy.
Washington says it is concerned that Tehran might deploy a new
generation of centrifuges to enrich uranium, a process that can yield
nuclear fuel and weapons-grade material.
Conflict with Iran would likely involve both Israel and the US and
could lead to a wider conflagration in the Middle East that involves
Lebanon, Syria and other countries. Oil prices would rise very sharply
due to the closure of the vital Straits of Hormuz which could lead to a
new oil crisis akin to the one seen in the 1970s.
Global Flu Pandemic
Much of the public and many investment professionals have become
somewhat cynical regarding the threat posed by a flu pandemic. After
much somewhat hysterical reporting there is an element of the "boy who
cried wolf". The risk is that at some stage a flu virus will actually
mutate and governments and pharmaceutical companies may not be able to
respond in time to a real pandemic.
Just this last week, Northern hemisphere countries were told by
health experts to brace themselves for flu outbreaks. There has been a
surge of cases in the UK during December with swine flu appearing to be
the dominant of the three strains circulating. The European Centre for
Disease Prevention and Control warned much of the rest of Europe was
also beginning to see increases too. Meanwhile, parts of the US and
Canada have reported higher levels of swine flu
A real pandemic would involve thousands of deaths and could see
travel restrictions and quarantine measures. This would likely severely
impact the already fragile global economic recovery.
Large Volcanic Eruption
The volcano in Iceland led to wide scale travel disruption in Europe
this year. But volcanologists warn that the planet is due another major
volcanic eruption. Such a volcanic eruption could lead to a longer
period of travel chaos and negatively impact the global economy. Not to
mention the risk that it could lead to a very severe and prolonged
cold spell which would lead to much higher food and energy prices.
The record-breaking cold snap that brought chaos the UK and Ireland
and much of Northern Europe this month was mild compared to the brutal
winter experienced in Northern Europe from 1739 to 1741. In Ireland, it
killed more than a third of the population. The mini "Ice Age" remains
the longest period of extreme cold in modern European history. It is
difficult to be categoric about the extremely complex science of
meteorology but some believe that the Arctic winters may have come
about after a major volcanic eruption in the Kamchatka peninsula in
Russia led to the upper atmosphere being suffocated with tens of
thousands of tonnes of volcanic dust.
It wreaked devastation across much of Europe and especially Ireland
which experienced food riots, famine and epidemics. The mini 'Ice Age'
is now seen as the last serious cold period at the end of the Little
Ice Age between 1400–1800.
Crack Up Boom and Hyperinflation
Extremely loose monetary and fiscal policies and quantitative easing
have the potential to cause what the Austrian economist Ludwig Von
Mises called a "crack up boom".
"The credit expansion boom is built on the sands of banknotes and
deposits. It must collapse. If the credit expansion is not stopped in
time, the boom turns into the crack-up boom; the flight into real
values begins, and the whole monetary system founders. Continuous
inflation (credit expansion) must finally end in the crack-up boom and
the complete breakdown of the currency system.
Should the dollar and other debt laden currencies and government
bonds fall sharply in value due to a panic and wholesale liquidation we
could experience hyperinflation. In this scenario paper assets will be
shunned and people will protect themselves by buying hard assets such
as real estate, commodities and gold and silver bullion.
In such a scenario, gold and silver surge would quickly reach their
inflation adjusted 1980 high of $2,300/oz and $130/oz before
overshooting to much higher levels as was seen in Weimar Germany and
more recently in Zimbabwe.
It has never been more important for investors and savers
internationally to have diversified portfolios. Lack of diversification
and being overweight equities and property and the use of leverage and
speculation led to much wealth destruction in recent years.
Today, many investors and savers are overweight cash deposits and
long term government bonds and this lack of diversification may also be
seen as imprudent in the coming years.
It is important to acknowledge the risks posed to the euro due to
potential sovereign default and to the dollar, sterling and other
currencies due to currency devaluations and debasement. Loose monetary
and fiscal policies internationally mean that gold is likely to again
perform strongly in 2011 and therefore merits an allocation in the
majority of portfolios.
Many savers concerned about their savings and the risks posed by the
depreciation of fiat currencies are diversifying into gold and silver.
Gold is increasingly being seen as a currency and not as a commodity
and this is why the largest buyers of gold today are central banks in
China, India, Saudi Arabia, Russia and internationally. This trend is
not going to go away anytime soon and looks set to continue into 2011
and until at least 2012.
Given the variety of macroeconomic risks in the world today, owning a
genuinely diversified portfolio passively which includes international
equities, international bonds (high credit; short dated) cash and gold
has never been more important.
Undiversified savings and investment portfolios, unsafe
counterparties, leverage, attempting to time markets and speculation
should as ever be avoided.