Gold Forecast: Physical Metal Supply Shocks And Miners Facing An Uncertain Year

Gold has been on a bit of a wild ride lately, what with the economic effects of the coronavirus causing consumers to clean out most major retail gold outlets in the US.

The Retail Physical Market

At last check, the large online retailers such as Apmex, SD Bullion, and JM Bullion are sold out of most coin and bar inventory with the exception of some numismatic coins, with some dealers like Miles Franklin still able to source some pre-order gold coming down through the supply chain from refiners before it hits the dealer shelves. Retail gold premiums are up over 11-12% for the common 1 oz coins and bars.

Refineries in Switzerland have begun shuttering amid the chaos which the COVID virus caused in nearby Milan of Northern Italy. This past week, several miners in the Americas began shutting their doors on concerns for their workers and operations. As if on cue, the Mexican government shuttered non-essential businesses which includes closing down the precious metals miners. The disruptions to the supply chain for gold production are sure to create a substantial squeeze of near-term gold inventories at exactly the time in which the retail market is demanding much more of it.

Gold Spot Price Trends

Gold prices broke out after the Q4 2018 stock market correction, but seemed to settle in a range for the second half of 2019. As concerns for deflation of economic supply and demand started to increase in 2020 due to escalating virus fears in China and Europe, gold once again regained its role as a crisis hedge. The first quarter saw a strong rise in price, with a short price correction occurring in mid-March due to some margin calls and profit taking in the GLD and other gold derivative related investments.

I expect that, in the short term, gold prices will continue to come under some pressure. Gold is one of the easiest assets to sell during panics because it is accepted everywhere as a high-quality asset. Indeed, gold is a Tier 1 asset for central bank balance sheets, who have been stridently accumulating the precious metal since the Great Recession in 2008-09.

Investors should not view this selling pressure as indicative of the end of the bull-run. Most supplies above ground are in strong hands, such as with the central banks, retirement system funds, and wealthy individual investors, all of whom will be reluctant to sell large amounts during increasing deflationary pressures.

Rather, I advise gold buyers to use the dip as an opportunity to accumulate more metal exposure. The longer-term outlook for gold in an era of historic sovereign, corporate, and personal debt is also extremely bullish as the chances of systemic debt defaults steadily increases over time. 

Examining the Miners

The GDX index is trading substantially below the Great Recession lows in 2008. As the recession progressed and gold prices eventually rose, so too did the miners who produce the gold. Miners, depending on their efficiency in producing revenues over their cost of mining, enjoyed substantial leverage to the gold price. Often times, major gold miner stocks may appreciate between 2-10 times the amount of the gold price increase. That is the attractiveness of owning quality gold stocks in your portfolio.

While gold rose about 40% between 2008 and 2010, the GDX rose 89%. On the other hand, gold continued to rise in 2011 to $1900 while the GDX ETF faltered and begun its long descent to the mid-20 levels it has been range trading around since 2013. Clearly investors began to sell their gold stocks ahead of the peak in gold price at about the same time the gold companies were beginning to mis-allocate funds on bad projects, causing an increasing distrust in the sector for generalist investors.

The gold junior market has quite a different story, as you can see in the GDXJ chart above. Since late 2010 highs, juniors have begun to sell off massively, touching a bottom in 2016 and revisiting that bottom during the current stock-driven market crash. Gold juniors, unlike gold itself, are not a safe haven during times of crisis. It is true that when gold prices rise, gold juniors often rise along with it, sometimes over 10 times more than the precious metal itself does.

However, the chart action indicates that gold juniors are much more of a hit and miss sector than the majors, and certainly are more volatile than owning physical gold. Picking the right company here can substantially enhance your portfolio; whereas, picking the wrong ones can also decimate it.

2020 Outlook for Gold and Gold Stocks

The coronavirus pandemic may have pricked the economic bubble, but the weak fundamentals have been building since long before the virus showed up last year. After the Great Recession, I wrote a book documenting why world banks and governments had not solved the economic problem, which started my career as a financial analyst and author spanning the last decade.

The problems that the world faced in the financial markets 10 years ago have not been solved, and have only been made worse by endless money printing and debt creation. These are the same reasons I expect gold has extended its multi-decade bull run.

I believe that physical gold prices will continue to rise as the coronavirus pandemic continues to takes its course. The damage done has highlighted the endemic issues with excessive leverage in the financial system which cannot go on much longer without severe corrections. Large funds looking for yields (such as pensions and other retirement funds) will begin shunning a sovereign bond market that is increasingly gravitating towards zero or negative interest rates.

The gold market is a small one, relatively speaking. A move from the current ½ of 1% of American investment in gold to 2% would provide more than ample momentum for a large, sustained move in gold’s price. Should Americans embrace gold as they did in the 1980s by increasing their gold positions to 8%, we would witness an historic change in the valuation of precious metals, including silver as a secondary beneficiary.

The gold stocks may continue to suffer in the medium term, as closures will affect production and therefore net income levels. Lower income will increase downward pressure on share prices, despite strong headwinds in gold’s spot price. However, when gold production resumes, the influx of profit at much higher gold prices will reward patient gold stock investors who have chosen to include the best run gold companies in their portfolios, buying them at current bargain basement prices.

Robert Kientz
Goldsilverpros.com