Gold Outlook 2014—"Mining" Profits from the Demand For Gold

By John Manfreda

Editor's Note: On January 23rd, we started painting a picture for you regarding the current troubled gold and silver mining industry and the opportunity it presents to you. That first alert in a five-part series was painted with a broad brushstroke.

With the remaining alerts in this series, we provide you the finer details of supply and demand for both gold and silver.

Given the following...

1. Strong and strengthening demand
2. Severely stressed supply
3. Unprecedented monetary expansion
4. Artificially low interest rates
5. Prices for gold and silver at or below all-in costs of production... you don't need to wait for all five alerts to recognize now is a prudent time to acquire both gold and silver for wealth insurance and profit.

On 1/23/14, I wrote an article, Inside the Troubled Mining Industry, about the closing and consolidation of unprofitable gold mines. I explained how the resulting low gold supply, coupled with high demand in China and India, makes a good case for rising gold prices. In today's article, I dive deeper with more detailed information about what's happening on the demand side of the industry.

The inside story of why demand for gold appears low but is not

If gold prices are down, it's logical to conclude that demand must be down as well. On the contrary, you will soon read that demand is very high worldwide. So how can demand be high and prices be low? This has occurred because two factors have recently created a temporary inversion in the usual price/demand construct. They are: Lagging Buying and Pent-Up Demand.

When these happen, there is a realistic chance gold prices will rise in the near term, and a terrific window of opportunity will open to buy low right now.

First, let's look at Lagging Buying, which occurs when forces outside of direct supply and demand enter the picture.

One of these indirect forces is the irrational exuberance of Wall Street. Because of the upturn in stocks, many people have been disappointed in gold by comparison. Many hedge funds took action by selling their gold, and hopping into the stock market. This produces a domino effect that results in what appears to be a bad sign for gold prices; that being, a decreased demand.

This does appear as a short-term decrease in demand; but in my opinion, it is actually a short-term influx of supply as wealth transfers from West to East.

Why? The decrease in demand is not based on the intrinsic value of the gold itself, but on another factor; in this case the perceived value of stocks. Those who conclude this is a real decrease in demand have missed an important factor.

What has happened in actuality, is a transfer from weak hands, such as institutions and hedge fund holders who buy and flip, to strong hands, like the Chinese, who traditionally buy and hold gold for the long term. It also portends a new surge in buyers who are now top heavy in securities and will take insurance refuge in gold in the future.

Look at the mainstream pundits. Short-term price forecasters are behaving like a herd of cats, refusing to stay put long enough to give us a clear picture, but they are not bowing out of gold.

A look at the Gold Forecasts of major Wall Street banks bears this out:

There is more than a 20% swing in outlook predictions between the most bullish opinion (+9% from Morgan Stanley), to the most pessimistic (-12.8% from Goldman Sachs), with Barclays riding the fence at 0%.

Next, let's look at Pent-Up Demand. Just as important, if not more important than lagging buying, is the loyalty of the strong gold buyers and their Pent Up Demand.

The China Factor

We have long known that China has a tradition of buying and owning gold passed down from generation to generation. This old tradition is alive and well, but we do not have to rely solely on the past. Present cultural and demographic factors have put the Chinese on a gold buying path, causing upward pressure on gold demand.

China currently has one of the oldest and largest populations in the world with no stable Social Security program. Their cultural infrastructure of older children, particularly firstborn daughters and daughter-in-laws, taking care of older parents, is rapidly collapsing.

In the past three years, China has built its first assisted living and nursing home communities. The Hutongs, shared housing for intergenerational families that were in the heart of Beijing, are being leveled to build high-rises for the young.

Older adults understand for the first time they are on their own. While China on average doesn't boast a wealthy population, except for the billionaires at the top, the average Chinese saves 40% of their income. They choose to save a significant percentage of their income in gold because they understand gold will hold its value over the next 30 to 40 years, when they will be forced to put their savings to work during their golden years. As a result, the older Chinese are buying gold, and creating a chain of demand.

Chinese gold policy is helping this trend by holding its gold for its own citizens to purchase. This has a tremendous effect on worldwide supply as China is the world's largest gold producer, by a very large margin. When the final numbers come in for 2013, they will likely be close to 440 tons. For context, Australia is a distant second, with production in the vicinity of 250 tons. China does not export any of this domestic gold production.

Despite all of this Chinese gold hoarding, the country remains a net importer of gold. Bottom line, gold resonates with the Chinese to the extent that they are the most important demand factor in the global gold arena. The World Gold Council (WGC) recognized this in March 2012 when they reported Chinese gold demand could double within the next decade.

64% of Chinese gold demand is to fabricate jewelry. The Chinese are getting wealthier, and they plan to show it. According to China Consumer Daily, it is estimated there will be 75 million households with an annual income of more than $4,300 U.S.D. by 2015, compared to just 15 million households in 2005.

When the Chinese have money, they invest in tangible assets, albeit assets they can wear like jewelry, or those they can display, like rarities, art, and stamps.

Not just personal buying is at play in China. National banks are under-reserved in gold and are also a demand factor in their own right.

A 2010 International Financial Market report revealed the Peoples' Bank of China called for a higher gold reserve to offset depreciation of foreign exchange reserves. ASI and the Chinese believe currency protection is best available through owning gold. This penchant for gold is incentivizing Chinese financial managers to add gold to their funds, as both a hedge against inflation, and for market crisis protection.

Additionally, current reports out of China suggest consumer gold demand remains robust as January 31st is the beginning of the Chinese New Year. Clearly, Chinese gold demand will play a significant role in how gold performs in 2014.

The Indian Government

In the first part of 2013, Indian demand for gold looked like it was headed towards a record level. If this had continued, India would have imported over 1,000 tons, matching the demand level of China.

However, the Indian government implemented repressive import tariffs and other restrictions on gold in May 2013, causing gold to fall drastically for the rest of the year. This chart demonstrates the dramatic decline:

This drop is artificial. The actual Indian demand has not fallen, but the Government action produces a result that acts the same way as a genuine drop in demand. Prices fall. Indians have continued to buy gild. But, they are doing so through a thriving black market as opposed to buying through official channels.

The gold market is keeping a close eye on India. It is an election year and the tariff situation may change suddenly. Narendra Modi, the head of India's leading opposition party, and the election frontrunner, is pro-business and is known to be pro-gold. According to Gold Miners, "The elections will be held mid-year and should he win, it is possible his government would take quick action to remove the shackles that have been placed on gold imports."

The restoration of Indian demand would put them in direct competition with China to secure the limited gold supply available on the world market.

ASI clients are also strong gold owners who do not abandon their holdings for the temporary 'greener pastures' of the stock market.

How shall you mine for profits?

Enjoy these dips as 'gifts' from the markets and from speculators. As long time buyers, with a goal to Keep What's Yours, buying low at this stage and then adding through dollar cost averaging, is a wise strategy.

With the above insights in mind, give us a call at 877-340-0790 or send me an email, to discuss adding to your core portfolio of long-term holdings. Rebalance your portfolio, improve your asset allocation, and buy precious metals at current prices in anticipation of the consequential price rise, as these demand influences work their way through the market.

And be sure to look for the next alert in the series covering gold supply on February 18th.

If you happened to miss it, here is the link to the previous article in the series.