Gold's moment of truth

Brendan Ryan | Fri, 28 Aug 2009 11:17

[miningmx.com] -- THE GOLD price reached the mid US$960/oz level during the first week in August, which is unusual as July/August is traditionally a weak trading period for the metal. The reason, says Gold Fields CEO Nick Holland – as well as Paul Walker, CEO of British precious metals consultancy GFMS – is rising investment demand driven by fears over looming inflation.

But the two differ about whether this renewed investment demand for gold is sustainable.

Holland believes it is and predicts investment demand is going drive gold “to the next level”. Walker agrees there’s considerable concern over possible looming inflation but he’s not so sure that’s actually going to happen.

The implications for gold and gold shares are huge. If the higher inflation scenario becomes reality then gold is headed for new record levels around $1 300/oz within the next year to two. However, if inflation is kept under control then Walker says gold is likely to pull back to levels around $850/oz, after which it could decline further.

Says Holland: “I don’t see anything that’s going to stop rising investment demand. The US is going to reflate its way out of its problems. There’s no other option. There’s going to be serious inflation yet again, although it may take another year to come. When it does I think we’ll see some interesting action in the gold market.”

Walker also thinks the next year is going to be interesting for gold but, at this stage, reckons the price action could go either way.

Walker says: “We’re on the cusp of a very interesting journey for gold over the next six to 12 months. Inflation is being viewed as a real risk by many investors taking the view the ‘green shoots of economic recovery’ aren’t as robust as people are making out. They’re also concerned about the inflationary consequences of the financial interventions in the markets.

“If that inflation starts to happen then the investment flows to gold will be maintained and could even increase, pushing gold to between $1 200 and $1 300/oz over the next two years.

"But if the ‘green shoots’ prove to be genuine and markets start to stabilise – with a slowing of the rate of decline in house prices and interest rates beginning to rise – then the investment case for gold becomes far more difficult to justify and investment flows may drop off. My personal view is I don’t see inflation taking off.”

Key aspects from the June quarter results from Gold Fields and AngloGold Ashanti are the inexorable rise in costs at levels well above ruling rates of inflation and the adverse impact of the strengthening rand on the mines’ US dollar revenues.

AngloGold Ashanti’s cash costs for the six months to end-June are 26% up on those for the comparable period of 2008. Gold Fields’ cash costs for the year to end-June are up 34% on its 2008 financial year.

Even more sobering is the analysis provided by Gold Fields about what it terms “notional cash expenditure or NCE”. That measures the total cost of producing gold by including capital expenditure and other costs needed to stay in business, which are excluded from the cash cost calculation. Gold Fields is forecasting an NCE cost of R220 000/kg for the current September quarter.

Currently, the rand gold price is oscillating between R235 000 and R245 000/kg. That means slim margins – indicative of the profit squeeze the mines continue to face despite the strong dollar gold price.