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Global Economic Growth Outlook and Gold

Commodities / Metals & Mining May 09, 2007 - 09:52 AM GMT

By: Neil_Charnock


It should be of some interest to the global investment community, in particular those that make money from the commodities boom and gold. I am referring to the performance of the global Resource Bourse - the ASX… because it is more heavily weighted in resource stocks than any other national stock market. Well that and banks too, very top heavy with BHP and RIO and some larger commodity producers.

This is a land of giant nuggets, massive mineralized belts and a disproportionate amount of mining activity, 3 rd highest global gold producer at present. See the chart below as an indicator, the ASX is booming and we enjoy a world class sovereign risk rating.

Chart courtesy of Big Charts

The chart above looks like a parabola in the making don't you think??

The Australian Federal Budget was just handed down last night and had all the predictable “vote for me” treats in the bag. The interesting thing to me is the local and global growth forecasts. Out Treasury Department predicts that the Chinese and Indian economic miracles are expected to continue (therefore - so too the resource boom). Chinese economic growth is projected to remain above 10% over 2007 and 2008 (which will drive a strong market in ASX resource stocks over the next 12-18 months but they don't say that of course). Investment in China is expected to remain the primary driver of growth, and they expect it to be supported by strengthening internal consumption and a solid, albeit lessening, contribution from net exports.

Also note that as domestic consumption continues to improve in China we see a gradually decreasing reliance on the US economy and Chinese exports – and this should continue as a trend. This is a good thing for the global economy and even our friends in the USA because it has a rebalancing influence on the global economy. The US economy is currently the source of greatest risk and imbalance in the global system, with GDP growth “struggling” along at an estimated 2.25% for 2007 due to housing and yes… propped up by domestic consumption. Global GDP growth is predicted to expand at 5% during 2007 and 2008 which will assist the US economy. Euro zone too – expected to bubble along at about 2% with stronger internal consumption.

In India , policy tightening (higher interest rates and increased cash reserve ratios for financial institutions) has been implemented to eliminate signs of overheating in key sectors. Treasury expects strong Indian GDP growth over the coming year or two; 8.25% for 2007 and 7.75% during 2008. Japan too – expected to remain in an upswing and not expected to raise rates until deflationary influences are clearly eliminated. The Japanese CB works very closely with the FED and because the Japanese Government could not afford higher interest rates when their economy is finally looking in better shape it would seem likely that accommodative interest rates will endure – read that as continuing strong conditions.

Now, if correct, then this is good for the long term prospects of gold as an asset class because more and more money will continue to be created. Nice trend continuation which is continually unexpected by the crowd so therefore this is quite possible. If correct this is also great news for commodities and great for the Australian Resource Boom, I would love to see trading conditions continue as they are. Nothing too drastic, time for a steady ramp up in gold demand, especially in the booming Asia and time for the CB's to run out of gold to supply to the market. This would suggest there is time for mines to ramp up, time for profits to flow and dividends… nice investment climate.

Local metal comments

I have noted CEO's of our giants and large resource companies also agree with Treasury forecasts (perhaps Treasury received confirmation from these executives)… strong growth and no imminent end in sight to the current conditions. My newsletter contributor Colin Emery, a leading and seasoned international trader (with a very strong resource background) was even tempted to leave the nickel chart out of the last issue because the uptrend is becoming boring!

Copper has rebounded strongly and so has zinc, question is; when will gold start to outperform the base metals again? I was just sent a broker report by another contact which suggested that as we move out over the months we will see volatility in the base metals due to supply driven price pressures… and gold to decouple, in other words surge ahead .

Whereas global growth seems to suggest more of the same trend in the base metals they are suggesting rising supply to meet this demand however no suggestion of any significant price drops either… just volatility which will be an excellent trading environment for major resource stocks. The ASX resource stocks are generating tremendous cash flows at these levels and should these general levels hold we will see continued interest increasing in these companies. Should the 5% global growth forecast come to fruition we will certainly need additional supplies or there can be no growth – these metals are essential for infrastructure rollout.

That particular broker also noted the importance of the pin striped investor – spec hedge funds and how they increase volatility, note volatility is a trader's friend. Their comment in favor of gold; constrained central bank selling, poor mine supply growth and gold's natural ability to provide a hedge against inflation .

Talking specifically, and still locally, we now see LHG buying back their hedge book and NCM starting to move theirs faster than they are required to. Several other companies are in the process of closing out forward contracts and not renewing them so the industry is telling us they see good conditions ahead. In trading terms this means we should buy the dips and enjoy the ride.

Currency comment -global traders leverage from this factor & exporters need to be aware.

As the AUD / USD exchange rate has now eased a little from recent short term highs - it is approaching an ideal time to deploy some funds into the booming ASX resource area but be patient short term. There is not a great deal more down side risk in the local Australian currency exchange rate against the USD however there are many high RSI readings on the resource leaders at present. Do your homework now and select the right stocks that suit your own personal investment style and risk profile. Then look for the right entry level opportunities that will present during the next few weeks as we draw down to the end of this financial year. This way you can layer in bids below the market at strategic support levels and wait for those bargains.

The current consensus is that the USD is going to hell at a rapid rate and that this is the end of the US economy and we just don't buy that at this time. No denial that the USD is in a down trend or that it is at a critical point right now. No denial that the greenback is facing a major decline in global stature either but we do caution on the short selling of the USD based on the anticipated break to the down side below horizontal support lines when we are really looking at a long term down trend channel.

The point is that this is an orderly decline at this stage and necessary to rebalance some major imbalances in the system so it is a good thing. We understand this is not a popular comment however we believe it needs to be stated. Major market forces are managing this and it is to their own advantage, a managed decline. With GDP forecasts and performance as they stand at present – things are looking orderly, in terms of the new world conditions and the disequilibrium present. Evolution is the order of the day.

We have just done a comprehensive research study, handled by the GoldOz panel expert Colin Emery and this is part of his lead into the subject for our clients this week… “Yet again I am concerned that many commentators want to put the boot in the big buck – and the doom and gloom merchants love signaling the end of the US Dollar – and I've had to listen to this view for the past 25 years – 15 years of that as a Manager of Foreign Exchange trading desks for International Banks.” Colin has heard it all before and cites an example of a good purge in the 80's where it was not orderly - and his reasons for his current opinion.

So from a contrarian point of view beware that the “counter think” gold bug and USD bear crowd - now crowded onto one side of the “USD death view” ledger – shorts may get caught and it could be ugly. This could easily create pressure to the upside after an initial down side break below even below long term supports - which confound the crowd and enriches the other group further. Now I am a lover of gold and an old fashioned investor that has turned trader because I follow conditions. I care about value and balance sheets and all sorts of “out of fashion” details. I know this is not popular either and it could cost some business short term – I would rather that than to see my gold bug friends get hammered. We shall see what happens.

Relevant Asian news out over last weekend:

Asian finance ministers agreed on Saturday to pool their foreign reserves to help avoid a repeat of the financial crisis that devastated the region a decade ago. Ministers from ASEAN member nations along with China, Japan and South Korea (ASEAN+3) have been seeking ways to strengthen the region's seven-year-old web of bilateral currency swaps, called the Chiang Mai Initiative (CMI), and transform them into a more powerful multilateral scheme.

Now, Asian countries including China and Japan have foreign reserves totaling around $3.1 trillion, accounting for about two-thirds of the world's total. Currently the CMI is a network of 16 bilateral currency swap agreements that total $80 billion. The idea of the CMI is that a country with a short-term liquidity shortfall can borrow reserves from partners in the network to absorb any heavy selling pressure on its currency without having to resort, as in 1997, to a damaging devaluation. Source Reuters.

And Colin's comment on this…

“This highlights a few points I have been making about currencies and will re-iterate them again – The International markets are moving into the next evolutionary stage – in fact you could say sophisticated – very integrated – but this integration is not as we previously have seen increasing risk but being done in layers to diminish risk in the longer term as the above initiative and others are being designed to ensure.”

We have covered the; USD/YEN, USD/EURO, AUD/USD and the EURO/YEN this week in a special bonus Newsletter edition. Colin also covers the normal issue; base and precious metals, the ASX, the ASX – S&P 300 Metals and Mining Index and several stocks each week. Regular traders and investors seldom gain access to this kind of insight in this sort of detail.

Gold and silver - implications of the changing conditions:

For gold bugs it means we are not going to see an immediate collapse in the USD and “gold going to the moon” which is a great thing. Comment – I apologize to the sensible gold camp (where most of as fall) for the typo I presented to a major site recently in my article where I spoke of gold breaking $885! It was my fault and I meant $685 and I have had to adjust my work hours to include a little more sleep since that blunder.

What we are seeing is a gradual shift to a lower global reliance in the USD and a gradual shift to gold as a fashionable currency and reserve asset in its own right. Now this has massive future implications for gold as well because if we are only looking at a controlled situation and rebalance in the current higher gold environment then imagine what is to come. As Central Banks move to higher weightings of gold, particularly in Asia , and the Western Central Banks continue to soften their sales programs, we will see a major gold supply source cut off at the knees at the same time as we experience an extremely strong increase in demand.

I would prefer to see an orderly unwinding of; US Trade deficits, global reliance on the USD and the unfashionable status of gold and silver than a disorderly collapse. This later event would only hurt more people and ruin more finances and lead to more international instability which we don't need. It would also lead to a premature spike in the precious metals and unsustainable gains. No no… that would not suit the long term gold Bull Market because it takes time for the companies to develop their production capacity to supply increased gold demand and we should only wish to see that come to fruition.

At GoldOz we would prefer to see the trend develop and continue over time, with minimal social disruption, and for the companies to bring production on stream and dividend payments to become the norm. Increasing dividends will show the miners are having their deserved time in the sun and the early investors who can stay with the Bull Run will become wealthy compared to those who miss it.

This prognosis, if I may call it that, is excellent for ASX gold and diversified resource stocks too. We are likely to see a rising USD shortly and a rising gold price, silver too once the current consolidation ends and we are very close now in my opinion. This will lead to a rising gold price in all currencies again just like what we saw in the second half of 2005 and this provides magnificent opportunity.

Investment strategy comment:

Many investors are glued to smaller to mid cap stocks for the sake of spectacular gains thinking that this can make them wealthy faster. Everybody wants that and fair enough, this can come to pass for some however there is more risk in this area of the market. In fact often the inexperienced gravitate to these stocks when it is really a specialist area for the more experienced trader. Yes smaller investors trade in smaller parcels and the lower liquidity seems to be a good fit however this can work against you too especially when the market turns south.

I look at it this way… you can trade the larger stocks many times a year and even many times a week if you are nimble enough. Whereas my parents' generation was taught you buy and hold stocks for the long term, just like real estate, this does not work as well in the modern age. So, the point is you can make 5 – 10 & 20% gains a few times a year and in much safer companies. These larger companies pay a dividend and can even buy back shares instead of diluting your holdings with continual share purchase schemes and capital raisings with sophisticated investors. When you compound these 5-20% gains and then allow for the losses you might have made in your investing activities in the small caps - you come out way ahead. It is all about compound mathematics and accumulated profits and risk minimization. I am talking on a general level here not for the elite investor or the lucky – just the average trader / investor.

Now to the other part of the Resource Bourse – smaller cap stocks:

I have been updating my PDF sets for subscribers and have noted a marked 50% jump in share prices across the broad mid sector of my coverage. This delights me as my clients or even those who may have been encouraged to buy ASX PM Stocks because of my writings would have done really well on balance. That is what it is all about in my humble opinion. The uranium product buyers – and uranium investors have had a wild field day too. Things are starting to simmer down under and now all eyes turn to a time later in the year when gold is breaking new highs. So is this just a prelude to a real rally? What do you think?

Thing is that this rally has happened as predicted in my articles, but it happened during a time of frustrating sideways grinding in the gold and silver price. Our assets are just too cheap and our dollar is just showing too much upside potential so bringing home the bacon after a bigger run could be very nice for offshore investors. The yields of many of the larger resource stocks we cover on our spreadsheet have been and still are low by international standards too.

Back to the broad selection of stocks I cover… the strategy of sorting them into categories has worked very well. If you have the time to do this I recommend the move. I separated the Producers first and also into large and smaller companies. Seasoned traders would see the value in this immediately because it is generally the larger producers that move first. Then I sorted out the Developers, companies that have moved to the decision to mine stage right up to imminent producers… once again sorted these further into smaller and larger developers because most of the excitement will come / did come from the larger assets and this came to pass too. The large developers had their run and it was very strong.

Then there is the Leading Explorers and Mid Tier Explorers hoping to define a project and some in pre-feasibility stages. It was the leading explorers that boomed last in this pre-cycle. I call it a pre-cycle just because it occurred in a sideways gold move and can only imagine what will happen as gold sails past US$800 in the 12 coming months. Lastly I have a list of explorers and add recent floats to try to keep up to speed with this fluid market sector. Many of these grass roots explorers will be of interest much later however some of them with promise and good management climb up to Mid Tier status each and every quarter so they are worth watching.

For anybody with the patience and time this is an excellent method of trading a gold sector in any market anywhere and I can highly recommend you do it… well worth the investment in time to gain that knowledge.

Good trading / investing.

By Neil Charnock

Copyright 2007 Neil Charnock. All Rights Reserved.
Neil has traded bullion, shares, options and futures for over 25 years as a private investor.  He has also worked with small business and real estate.  Also the Author of articles on global economics and resource investment, has been published on over 30 web sites and recently provided input for a book on Junior Miners in Australia.  Neil has been self employed in numerous businesses including consulting and organic waste management - corporate contract, has also been a founding Director on a number of occasions.  Now the founder of GoldOz, a full time occupation, and is assembling a distinguished team with impeccable professional credentials in order to provide data services and general independent investment advice products.

Neil Charnock is not a registered investment advisor. He is a private investor who, in addition to his essay publication offerings, has now assembled a highly experienced panel to assist in the presentation of various research information services.  The opinions and statements made in the above publication are the result of extensive research and are believed to be accurate and from reliable sources. The contents are my current opinion only, further more conditions may cause my opinions to change without notice. The insights herein published are made solely for international and educational purposes. The contents in this publication are not to be construed as solicitation or recommendation to be used for formulation of investment decisions in any type of market whatsoever. WARNING share market investment or speculation is a high risk activity. Investors enter such activity at their own risk and must conduct their own due diligence to research and verify all aspects of any investment decision, if necessary seeking competent professional assistance.

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