By Terry Hughes
It is simply case of human nature for investors to be protective of their investments and no one likes to read a story that disagrees with their investment theory, and this is perhaps even more true when it comes to the pro-gold camp.
While Barclays Capital may be flagging a rocky road ahead for gold if the FOMC surprises on the hawkish side, proponents of the gold is going nowhere but up theory should take solace from National Australia Bank economist Gerald Burg latest musings on the issue.
Burg argues that while gold may have fallen sharply since reaching a 25-year high in early May, "a correction doesn't signal the end of the gold bull market."
In NAB's view, the Fed would be unwise to tighten any further (after the expected June hike), and the bank expects that given the weaker outlook for the US economy, "rate cuts are likely from 2007."
Despite recent downward pressure on the precious metal from lower jewellery consumption and interest rate concerns, the economist is of the view that gold investment demand will "remain the key driving factor in coming months" and this view is supported by high energy prices, incentives to diversify away from US dollar assets and ongoing geopolitical tensions, he says.
Furthermore, investment in gold is on the up, with interest in the metal as an alternative investment increasing since its break from the historic relationship with the USD/EUR exchange rate in June 2005 and thanks to newer financial products like Exchange Traded Funds (ETF), "which have increased sharply in 2006."
Further supporting this theory is the view that gold supply is only expected to rise by around 1% in 2006, with South African and Indonesian output both seen as declining.
The majority of new gold output is expected to come from South America, Burg points out, but this is not expected to occur until later this decade, with short term production increases seen as only modest.
An anticipated increase in producer dehedging is also forecast to reduce supply on the spot market in 2006, Burg adds, and central bank selling has also slowed sharply, down 57% in 1Q06 to 116 tonnes, according to GFMS data.
So what of the future direction of the gold price? In NAB's opinion the simple fact is that the gold price rose too far, too fast and while the bank sees volatile times ahead, "we see the trend as upward."
With this in mind, NAB has lifted its 2006 spot gold price forecasts to US$632.9/oz from US$568.3/oz, and 2007 to US$752.5/oz from US$607.5/oz.
NAB is not alone in this positive view of the metal's prospects, with net speculative positions remaining firmly pointed to the expectation of higher prices to come, despite the recent fall, Burg points out.
Although conceding that the possibility the Fed may raise interest rates further adds some downside risk to this outlook, NAB maintains its view that the Fed Funds Rate will stay at 5.25% for the remainder of 2006 and that rates will decline in 2007, which it says "should provide upward pressure to gold prices," as fixed interest asset returns begin to decline.
