• Gold price now in uptrend
• Gold stocks jump after rallying from Nov 2104 lows
• Downtrend breaks for several resources equities indices
• Gold price encouraging broader short cover rally?
• Price bottoms for oil and copper?
• New paradigm applying to resources investment
• Do have enough(any?) resources stocks?
• Call me to discuss +61 2 9222 9111 bdawes@psec.com.au

As noted in the last Dawes Points further rises in gold have given strong support for gold mining shares and these are now acting to reassert reasonable valuations again after years of underperformance, especially against gold. Consider that the market place is extremely underweight gold and gold shares so the run may be longer than expected and the eventual pull back may come much later. Gains to date have been over 100% for some of our major gold stocks and the smaller companies have great leverage and will eventually join the party. And as was said, this rise is gold is extremely important and when put in the perspective of the BIG PICTURE so much is now becoming clearer. A couple of months ago I wrote a piece titled , What if  …a rising gold price forces a short cover rally? Well I think it is coming to pass. The gold price is rising in almost every currency. Equity markets are rising. You can get yourself tied in knots over the actions of the Fed, the ECB, The Japanese Central Bank and the PBOC or even the Swiss National Bank.  Do you really understand what is going on?  From the 10,000 views from 5,000 talking heads and economists I would say most of them don’t either. So let’s just look at markets and tonnes.  Prices for gold, oil and copper.  Iron ore, tin and zinc.  The Shanghai market, Mumbai, Hong Kong and New York.  Tonnes of production, consumption and inventory. What I see is truly fascinating.  I am bullish on gold and economic activity.  I am not a doom and gloomer who seems gold as the only lifeboat.  Not a bull of the US$ for the infinite margin call that might be coming on all the debt funds utilised outside of the US, especially the Emerging Markets (whoever they might be).  Not a bull of vastly over valued sovereign debt.  Not a Greater- Depression-Underway fan. Just a follower of tonnes and observer of markets. I have been saying that something is not adding up for gold stocks and whatever I said there applies multifold for all other resources stocks. This may be a very important Dawes Points. My view of the world has been for some time a matter of the flow of funds. The movement of capital from one asset class to another. The vast amounts of cash and the extraordinary commitment to government bonds has to flow from these vastly over valued sectors to those vastly undervalued.   All resources are grossly undervalued. Last week the focus here was the very attractive PERs and dividend yields applying to the Australian Gold Sector. The numbers were 4.0x for FY17 and a yield of 10.0% for the Paradigm universe of gold stocks. Under-owned, despised, hated, forgotten but such extraordinary value!  And dividends coming along. My clients have a portfolio of the best of these stocks. What do you have? As most of you know, I have been watching the resources sector for over 40 years and have experienced many cycles but just as importantly have researched many more as far into history as can be accessed.  I consider this allows me to have a different perspective than many others and has given me the experience to have remained long term bullish during this long period of falling resources shares and commodity prices. My 2014 non-traded 30 stock portfolio established in late 2013 was up 24% in 2014 compared to    -20.7% for XMM, -19.0% for XJR, -29.2% for XSR, and +7.9% for XGD. I will explain my 2015 portfolio a little later this month. I still expect the next move up to be very strong and last for a very long time. Almost every cycle I have experienced has seen strong investment and consumer demand that pushes hard against capacity and results in higher prices for commodities and manufactured goods.  Labour prices follow higher as do interest rates and debt. High interest rates reduce demand, prices fall and newly committed capacity comes on line only to see operating and corporate failure.  Equity markets fall and many bond prices rise.  All commodities, including gold, fall in price, inventories rise and unemployment surges.  Bad news, misery and Hard Times. Then it all starts again. But this time it is very different. This time the world has a growing China with 1400 million people. IMF says its Purchasing Power Parity GDP figure is now US$17,600billion pa and growing at 7+%pa compared to US$17,100bn and 4%pa for the USA.  This time the world has 1300 million people in India and growing at 8%pa.  Add 700m people for ASEAN, 1,000million for Africa and 700m for Sth America. Resources materials consumption is at record levels and growing.  I have previously highlighted the strong demand for iron ore into China and the just-published 2014 import data showed an increase of 13.8% to 932mt.  So much for slowing or falling demand from China. High growth rates are always unsustainable but slowing growth is not declining demand.   It is worth reviewing all of this data to show what is happening on the demand side. Spend the minutes to see the demand/consumption levels.  See the growth rates.  All these consumption figures are at RECORDS levels. To see commodity price fall 50-80% and the resources shares fall even more doesn't make sense.  In previous cycles, as noted above, demand fell and commodity prices collapsed.  This time commodities collapsed and consumption reached record levels.  Its true. Recall that the commentary has shifted from incessant calls for demand shortfalls to tirades about oversupply.  What is going to be the next mantra for Wall Street’s self absorbed IBs?  The managements of resources companies have been pilloried by everyone.  The operators working at the market edge have been replaced by the bureaucrats to help `steady the helm’.   The entrepreneurs have packed up their tents and shut down their businesses to protect their core assets. The financiers have been long gone and the funds themselves have been commandeered by even more colourless bureaucrats who would rather have safety at <2% on 10 year sovereign debt than back any cohort of risk takers and builders. So come and look at this data. Growth everywhere (except for Chinese crude steel production). Some excellent work from Glencore is contained here.  See the Investors Day Presentations from 10 Dec 2014.  Over 150 pages of graphs data and strategy. Enjoy. The link is here. http://www.glencore.com/media/speeches-and-presentations/p/2014-investor-day The oversupply issue seems to be ready to self-correct itself and for most resources commodities the swing from surplus to deficit is either already with us or due in the next 12-18 months. Can you see what is happening? Consumption/transport of major metals

	2013	2014	2015	2016	2013A	2014E	2015F	2016F	Swing to deficit
Metals consumpn (mt)					% chg	%chg	%chg	%chg
Copper	21.3	22.4	22.6	23.3	5.8	5.2	0.9	3.1	2015
China	9.8	11.0	11.2	11.6	8.9	12.6	2.0	3.6
Aluminium	50.2	50.9	51.1	52.0	5.9	1.4	0.4	1.8	2013
Zinc	13.1	13.6	14.0	14.6	3.8	3.8	2.9	4.3	2015
Lead	11.1	11.5	11.7	12.1	6.1	3.6	1.7	3.4	2014
Nickel	1.8	1.9	2.0	2.1	6.8	5.6	5.3	4.0	2015
Tin	0.3	0.4	0.4	0.4	2.7	1.7	2.8	3.0	2010
Global Steel demand	1531	1562	1594	1640	2.0	2.0	2.0	2.9
China crude steel prod	822	807	840	850	12.4	-1.8	4.1	1.2
Seaborne trade
Iron Ore	1 225	1 360	1 435	1480	7.0	11.0	5.5	3.1	2016
China imports	820	933	1000	1050	10.0	13.8	7.2	5.0
Thermal Coal	931	946	966	1019	3.4	1.6	2.1	5.5	2015
Coking Coal	314	320	328	328	8.4	1.8	2.6	0.0	2014

  And note the lack of increase in LME stocks that is usually associated with falling demand and recessions.   Note too that LME inventories are only a few per cent of annualised consumption and 2% is less than one week.

000 tonnes	1-Jan-13	1-Jul-13	1-Jan-14	1-Jul-14	Current	From Jan 13	From Jan 14	% Ann cons	Ann Cons mt
Copper	320	665	315	155	248	-23%	-21%	1.1%	22.6
Zinc	1220	1061	854	668	630	-48%	-26%	4.5%	14.0
Lead	320	198	214	194	215	-33%	0%	1.8%	11.7
Tin	12	14	10	11	12	-2%	22%	3.3%	0.4
Nickel	139	187	261	305	426	206%	63%	21.3%	2.0
Aluminium	5210	5435	5458	5046	4049	-22%	-26%	7.9%	51.1

Nickel is an exception here. Iron-rich lateritic nickel ore from SE Asia has been used by stainless steel producers as a ferronickel product that has displaced pure nickel metal units.  How strange that nickel metal stocks are rising at a time of strong demand for total nickel metal units. A major deficit is predicted from 2016. And tin stocks are so low that even 1000 tonnes makes a big difference. There has been no high interest rate policy and restrictive credit action for most of the 5 billion people mentioned here. These has been no collapse in demand for commodities or manufactured goods.  No dramatic reduction in global employment. Almost every factor is unlike any previous cycle. And the internet is bringing us together into a global economy that offers extraordinary opportunities to everyone.  Almost unthinkable levels of new access to buyers for your product in almost every country in the world.  And so many new competitors against you and your peers. Commodity prices have been falling and the call is for deflation, depression and misery.  Is this the way it is to be? Glencore is the absolute antithesis of tonnes-up-the-shaft mining companies. It is a marketing company.  Mining companies need to be some version of Gerald Whittles’ Money Mining companies so marketing should be the critical issue to sell product and to optimise operational cashflows. Have a look at this graphic from Glencore. Interesting to see the strategy differences Note the huge investment by BHP, RIO and Vale into iron ore and bulk commodities. Note Glencore’s commitment to industrial metals like copper, zinc and nickel. Look at this Glencore graphic of the demand growth rates of metals against bulk commodities.  2014 was a very good year for demand but not prices. Go back and look at the growth rates of copper, nickel zinc and aluminium.  Note, in contrast, the turn to deficits in 2015-16 and the impact beyond. And let’s use Glencore’s stock level analysis for copper (note LME inventories have risen by a miniscule 50kt since this was presented).   Glencore also correctly points out that much of the supposed new copper capacity coming on line has been deferred due to availability of capital, corporate over-extension, environmental and political interference and just bad luck.  Glencore things the Copper Deficit might just come earlier than expected.   Copper price action is indeed fascinating.  Channel analysis picks up important support and the 2002 uptrend is helping out.  Oversold and ready for strong bounce after falling for three years.  And note that copper made a new all-time high in 2011.  Strong underlying long term fundamentals applied then and still apply now. Here you should be recognising that the old paradigms are no longer working so you need to be thinking what else might be happening. So here is my paradigm.  My way of thinking. You will recall I have referred to my presentation of the MPS Disbelief, Pessimism, Optimism, Opportunity and Euphoria graphic in November 2008 at Mines and Money in London. I have provided updates for this occasionally.  Why have I done this?  I was amazed at the sentiment that applied to the Disbelief Leg 1 in this bull market.  Believe it or not, from my perspective as a corporate financier, very few players were on board and the lack of market breadth was quite extraordinary. Remember when oil was surging to its high of US$147 in 2008 after the Lehman Bros and the sub-prime debacle?  The 20:1 leveraged global hedge funds pushed the major oil stocks to very high levels but the local institutions and public yawned and stayed out of the market and ignored the small cap oil and gas companies.  Ditto gold stocks and almost all resources stocks.  The big stocks were making all-time highs while so many of the small stocks struggled in the cellars.  No market breadth and no participation. So a bull market that not many people came to. The GFC brought about a major fall in 2008 that saw +60% falls in the XMM, XJR, XSR and XGD into Dec Qtr 2008.  These sectors bottomed here, along with general commodities, Shanghai and Hong Kong, more than four months ahead of the All Ords, S&P500, Dow, FTSE, DAX etc that made their lows in March 2009. This is important. 2008 was clearly the end of some economic cycle in the US, with housing the driver.  Usual end of cycle action with commodities peaking then falling, debt levels rising, some interest rate rises, a brief and short-lived spurt of price inflation, corporate failure.  This followed into Europe, Japan and elsewhere. China with its centrally planned economy was able to stand and, with fiscal expansion financed by a major trade surplus, accelerated infrastructure expenditure activity from 2009 onwards.  Demand for iron ore, steel and copper surged to extraordinary record levels. This provided Australia’s Resources Boom with over A$400bn of capital spending mostly on iron ore capacity, new coal mines and ports and the new LNG gas gathering and export facilities. The performances of the major commodities showed US$ price peaks in 2008 or earlier.  Most commodities rallied from the 2008 lows to good prices that peaked in 2011.  Interestingly, four key commodities had the underlying strength to rally to new and all-time highs – Gold, Copper (as noted above) and Tin and Silver touched its 1980 high of US$50/oz. I consider these will be the leaders of the next upleg that is now already underway.  Nota Bene. So coming back to the Wave Two Pessimism.  I thought Pessimism had fully taken hold in 2013 and 2014 but the latest surge in the US$ and the US T-Bond market showed that Pessimism was still alive, well and thriving in 2015. Have look at these.  Who are the lemmings chasing yield on 10 year bonds?: US 1.65%, ( US$14 trn net debt (81% GDP) Budget deficit of 4% GDP) UK 1.33% (GBP1.4tn net debt (84% GDP)   Budget deficit 4% GDP) Germany 0.30% ( Euro 1.5tn net debt (54% GDP) Budget surplus 0.5% GDP Australia 2.34% (A$254bn (16% GDP) Budget deficit 3% GDP) Source: IMF data These markets are clearly in the final phases of a collapse in yields (and a surge in price). The timing for the end is uncertain but it is likely to be very soon. Samuel Clements (Mark Twain) was quite correct when he asked about return of money not return on money.

US	UK	Germany

Would you prefer this paper garbage managed by some of today’s impressive world leaders or the `barbarous relic’ of gold?  You tell me. And Australian bank deposits. A$1,679bn as of 31 Dec 2014.  Term deposits have flattened at about A$530bn but Savings Banks have increased by over A$70bn in the past year.   Lots of Pessimism here. Source: RBA What can we make of this and what do we do next. So let’s come back to the Australia Resources Sector. These are the four key indices. XMM Metals and Mining XJR ASX 300 Resources XSR ASX Small Resources And XGD ASX Gold Index As noted, XGD, the Gold Index, made a new high in 2011 but none of the others did. All these have done the Disbelief Rally that peaked in early 2008, the decline into late 2008 then the bounce rally into April 2011 and the unrelenting decline into the lows which I consider were in November 2014. They all bottomed on 16 Dec 2014 except for the Gold Index which bottomed more than a month earlier on 6 November. Now if all the above fundamental supply/demand data are correct (Glencore definitely thinks so) then there should at least be a good bounce in 2015 for all things resources. Now let’s take a further step. What are the global equity markets telling us now? Starting at the heart in the US.   S&P 500  - maybe overbought and concerns are developing over the strength of US$ on earnings but the long term trend seems OK.  Renewed calls for a crash `tomorrow’ are still coming through.  Mkt cap US$17tn PER 17.6x The Russell 2000 for `small caps’ had a Gap Year in 2014 for a bit of rest but it too does not look over extended.  Mkt cap US$2.0tn.  PER is 50.9x. And the broad Wilshire 5000 looks very stable. And look at the rest.  Germany is OK.  Recent new highs.  Mkt Cap US$1.1tn.  PER 17.6x But now look at where the real action is.  Asia.  China, India, Japan (sort of), Rep of Korea and ASEAN.  And this flows into Middle East and Africa. China and Japan have started major new uptrends after long periods of decline. Singapore and Taiwan are ready to move up.  Not quite all-time highs yet but certainly trying. And now we have India under the new Modi administration. 1,280m people and GDP of US$900bn and growing at 6-8%. India is the fourth largest producer of crude steel and whilst historically India has been an exporter of iron ore, its domestic policies have created a real uncertainty.  Exports were banned and India became an importer. Now, exports are OK but net imports are likely to continue and to meet the proposed +8% growth in in domestic crude steel that will take India to over 200mtpa by 2015.  A lot of iron ore and a lot more coking coal will be required.  Have we heard all this before?  Yes, but this time it does appear to be happening and the pattern of Indian crude steel has traditionally been skewed to EAF (Electric Arc Furnaces) treating scrap and operating DRI (Direct Reduction Iron) plants. It will be interesting to see if a new collection of conventional blast furnaces will be built to take imported hematite and I am sure India will take a fair proportion of any Chinese export steel in the short term. India is growing, its stock market surging and Indians are becoming wealthier.  And India loves gold and will import a lot more, absorbing anything global gold mines can produce. It has to be expected that demand for zinc, copper aluminium and nickel will also benefit. Coal imports, both thermal and coking,  into India will only increase despite the proposed drive into solar and renewables.  Domestic policies on coal tenements are as complex as those for iron ore so don’t expect much of a surge in domestic production. China, India and all the other emerging economies will be taking more cheap oil and bring the market back in to balance as the US oil patch shrinks a little for the time being.   Shale oil recovery in North America is very like mining now with the capital costs actually being operating costs.  And the financing of this drilling activity has taken such a major hit that will take the oil drilling industry a few years to recover from. But the oil price does look to me to have very limited downside now and each severe sell off seems to correct within a few months.  This time should be no different.

Conclusion

There can be only one conclusion. Equity markets are telling us that sufficient liquidity exists for the world economy to survive.  The dive to unsustainable bond yields is coming to an end and will bring about the final stages to a 33 year bull market in paper financial assets. The supply/demand picture for commodities is still tight and as the flow of funds runs from cash and paper into equities and commodities the resources stocks will be the greatest beneficiaries. Are you set for the Wave Three (Optimism) Upleg? Gold and gold stocks are leading. BHP at 4.5% yield is coming next. Then all the second and third liners.  Copper, oil, uranium, zinc, tin, mineral sands and of course iron ore. Do you hold enough resources stocks? 2 February 2015. Barry Dawes  If not contact me to see how you can benefit.

• Gold stock extreme negative sentiment readings dominant
• Demand for gold and silver coins strong at lower price levels
• Increased `open interest’ on COMEX gold and silver
• `Wedging’ of gold stocks and indices showing probable trend change
• Be prepared for a major upmove
• Preferred gold stocks are NCM, NST,OGC, KCN, DRM, MML, GOR, ABU, CGN, BLK

The extreme poor sentiment readings for gold indices and the rebound of the US$ gold price from the important US$1137 low give good indications of the probability of an improved medium term outlook for both gold and gold stocks.  The technical picture for gold stocks has been encouraging and the valuations for gold stocks are extraordinarily attractive. The move could show considerable violence.

Demand for physical gold and silver has been very strong throughout the world and particularly in China and India where monthly imports appear to be well over 300 tonnes per month and so in excess of monthly mine production.  This graphic shows the robust increase in end-user/investor gold demand in China that was about 40 tonnes per month in 2009 and is currently over 200 tonnes per month.  This graphic shows essentially just gold imports and not Chinese gold mine production where China is also the world’s largest producer at well over 400tpa. Changes to India’s gold import rules under the new Modi administration have allowed imports to be over 150 tonnes per month. Perhaps even higher.  
Source: Koos Jansen   BullionStar

Demand for coins from the major mints has been very strong and supply has faltered.  As the gold and silver prices decline the market increases its physical demand. US mint sales have been very strong and Bloomberg recently noted gold sales from the Perth Mint (Australia at about 280 tonnes is the second biggest gold producer after China) climbed 89 percent in September to the highest level in almost a year as gold prices declined. Sales of gold coins and minted bars rose to a 12 month high of 68,781 ounces from 36,369 ounces in August.

Bringing these all together gives a model that says demand for jewellery, bar and coins is firm and rising and when combined with growing central bank purchases and a minor increase in ETF holdings now exceeds supply from new mining and a declining availability of scrap.

Gold has about 177,000t of above ground stock so any or all of this may be available for sale at any time.  Nevertheless, outside the ETFs any holder of gold in size is a central bank or a true believer and unlikely to be a seller and certainly not engage in dumping in the large quantities we have seen in recent years.  So the market could be remaining tight.  

Interestingly the US COMEX gold exchange is providing some fascinating data of the activities of traders in the futures market. 

As of late November over 50,000  100 oz gold contracts (5 million oz) had not been rolled over and might suggest party or parties were looking to take physical delivery of gold on COMEX.

Moreover, data from the Commitment of Traders (COT) has shown a 25% increase in new short positions over the past month or so.  Demand for delivery of gold could be a very important issue here and could lead to some real shortcovering.

Source: Mark Lundeen

The latest weakness in gold in October has coincided with a recovery in the US$ Index against an especially weak Japanese Yen and lower Euro.   These currencies make up around 13% and 57% of the USDX and both seem to be ready to retrace at least some of the recent falls so USDX might pull back here.  I am sure you are aware of the UNIVERSAL bullishness on the US$. 

The technical position on gold still seems reasonable even though it has been quite difficult in recent months.  Down but not out and today’s sharp rally may be suggesting lot more to come!

Market cross currents continue to make forecasting anything more than an uneducated guess but for gold stocks the `wedging’ of gold indices and many stocks makes for a greatly improved technical position despite that sharp fall on Friday 28 November and on Monday 1 December after the negative Swiss referendum result. The XGD here in Australia suggests a strong upmove is coming.

ASX  XGD Gold Index

Two key stocks are Newcrest and Kingsgate with strong wedging patterns and very high volumes.

However, overall trading volumes on ASX have been low compared to the MASSIVE volume in the GDX ETF in Nth America.

 

Of perhaps greater interest is this graphic of the Philadelphia Gold Index (XAU) which has an Elliot Wave interpretation that finished Wave 1 at the beginning of 2008 then fell into its GFC hole for wave A only to rally to new highs in 2011 to an irregular B wave.  The C wave exhibited a perfect 5 wave down process that should soon see the end of Wave 2 in this horrendous 44 month bear market.

 

Note that C waves into Wave 2 occur at the period of greatest pessimism and Pessimism ONLY exists at the end of Wave 2.   Every reason for gold to fall is out now on the front pages and gold shares are absolutely unloved.  The extraordinary build up of cash in Australia and globally is clearly Wave 2 Pessimism writ large and it can only go one way from here!

And after Wave 2 comes Wave 3!  The Optimism upleg.

Hopefully the improvement for gold and gold stocks will play out over other sectors so it should also mean better times eventually for all commodities and resources equities in particular.

Indeed the short cover rally in gold suggested in the last Dawes Points will probably follow through to all markets led by the strong US equity markets, Europe, India and China.  Australia, if it wakes from its torpor, just might follow.

But stepping back for while the observation is made that over the past several years of these volatile resources markets I have been very intrigued by market sentiment.  Markets are simply the meeting of buyers and sellers of goods and services and changes in price are all about the simple emotions of fear and greed.

I have previously quoted the words of the legendary investor Sir John Templeton (1912- 2008) who famously described fear and greed in markets by saying:-

`Bull-markets are born on pessimism, grow on scepticism, mature on optimism and die on euphoria.’

For the resources sector we have had a lot of Pessimism for a long time and we have had no Euphoria let alone Optimism.

I attempted an embellishment of Sir John’s assessment by involving some Elliot Wave analysis and labelling the first leg (Wave 1) in the new bull market `Disbelief’, the first major correction `Pessimism’ (Wave 2), the second leg `Optimism’ (Wave 3), the next correction `Opportunity’ (Wave 4) then the final upleg being `Euphoria’ (Wave 5).

This then gave us this roadmap diagram which was first presented exactly six years ago on 1 December 2008 at Australia Day at Mines and Money in London.

It worked OK for quite a while and has worked wonderfully well for US and many other equity markets but certainly not for resources since April 2011.

So where are we now?

As we are all aware,  the Resource Sector here in Australia has had thumping after thumping for the 44 months as the industry is demoralised and investors have been savaged. Demand for most commodities have been robust over this time despite the calls for downturns in all the US, Eurozone, Chinese and Emerging Markets.  Most have had good GDP numbers and the PMI for China yesterday showed yet again a still expanding economy. It is notable that the commentariat has recently switched from claims of declining demand to claims of excess new supply from producers as the reason for the perceived weakness in commodity prices.    

The falls in oil and iron ore are very real and not perceived but many other commodities the supply/demand positions appear robust.

It would be easy to accept the conventional wisdom and take the bearish course but six major issues need to be considered and resolved.

• the major global stock markets have achieved record highs
• the world is awash with cash
• the world’s bond markets have had over 30 years of falling yields
• the current oversupply in some resources could still turn to shortages very quickly
• the general public is typically out of the stock market worldwide
• the resources sector is already priced for a global depression  

Taking a very strong US equity market and economic data that is very encouraging with very robust physical demand for gold certainly suggests a positive outcome is possible.

The bond markets continue to suggest `end of 30 year bull market’ characteristics and could  soon reverse sharply. 

So if the above analysis of gold stocks is correct (in today’s volatility who would ever know) then my roadmap becomes a little bit different but indicates basically the same outlook.

The market upleg began in Dec Qtr 1998 at the bottoming of the commodity market and peaked in 2007/08 and the GFC correction has extended over seven years.  The first leg and the correction have taken 16 years.  Note the long time frame.

The Optimism upleg if it does indeed occur could last at least 10 years and not just to 2020.  China has not fallen over and India will be there over the next few years to add to demand for bulk raw materials.  The Euphoria was expected to coincide with the peaking of aging demographics in China in about 2030.  

Coming back to gold.

We all know gold is a topic of hot debate with the protagonists of both the bull and the bear cases having a remarkably broad range of bases for discussion.  Inflation, currency debasement, hostilities, debt, interest income (or lack of it!), inverse US$, interest rates, jewellery demand, whatever. 

The arguments are fascinating and would keep us all engaged forever if we had the time.  In these notes I do try to keep the issues simple and with gold, complex as it is, it is a matter of fear and greed and thereby supply and demand.  Gold, with about 177,000 tonnes or about 50 years mine production available, is unlike any other market in that supply can’t be affected by weather, floods or  strikes and a few local hiccups in mine production here and there doesn’t have much effect  so it is mostly about fear and greed.

Gold stocks in the US and in Australia have declined sharply over the past 44 months and are trading at very low levels as shown in the graphics above.  Sentiment is clearly poor for holders of these shares and any potential buyer is gun shy and particularly very wary of risks associated with clear market manipulation. Short positions in some stocks are considerable.

When measured against gold itself these gold stocks are at massive discounts to the long term averages.  Some higher input costs, inadequate accounting for total costs, lower long term ore grades (as new mines have high volume low grade ore throughput) and bad management decisions have undermined relative values but however we look at them the positions are extreme.

Here in Australia the ASX Gold Index is still down 80% from its April 2011 highs and made a new low below that of Dec 2013 which I previously thought had to be the real low.

The shorter term market is best seen in this wedging pattern shown again for the XGD.  Technical patterns like this can be resolved with sharp upmoves and a two year view could put XGD at about 5000 again, up about 150%.

The same `wedging’ can be seen for so many gold stocks and with all the November AGMs out of the way now we have a good collection of presentations that give up to date data on output and costs forecasts.

In noting the 24 stocks in the XGD and a chosen few from outside it is possible to ascertain the market leaders with best relative strength.

NST and TBR have excellent operators and have made new highs in recent months so are clear market leaders with BDR, TRY,MLX and ABU also having relative strength.

OGC, GOR, DRM and SAR have good market character and are also BUYs.

Many stocks are just oversold and are wedging to give strong rebounds.      NCM, KCN, EVN, RSG, MML and RRL are BUYs.

I have given some notional price targets based simply on technical character and backed up by reviews of the latest AGM presentations.  The issues for individual stocks are far more complex of course but we are talking about stocks down 80% and at the start of a new bull market in gold.

Risk is low, reward is high!  

Gold Sector Dec 2014

	Last high	Downtrend months	Price decline	Current price	2 Year target	Gain %	Rank Technical	Comment
XGD	Apr-11	44	80%	1701	5100	200%	9	Strong
ALK	Apr-11	48	93%	20	100	400%	9	Strong
AQG	Dec-11	42	82%	205	350	71%	9	Strong
BDR	Mar-13	18	83%	19	70	268%	9	Rebound
DRM	Nov-10	50	84%	27	100	270%	9	Rebound
EVN	Nov-10	50	81%	43	130	202%	9	Strong
FML	Apr-11	44	85%	1.6	3	88%	6	Avoid
IAU	Apr-11	44	94%	15.5	?		6	Wait
KCN	Apr-11	44	95%	62	400	545%	9	Strong
KRM	Apr-11	44	87%	25.5	60	135%	5	Rebound
MML	Apr-11	44	93%	57	250	339%	9	Rebound
NCM	Apr-11	44	78%	918	2400	161%	9	Strong
NGF	Dec-09	50	60%	14	25	79%	5	Avoid
NST	Sep-14	2	50%	96	300	213%	9	Strong
OGC	Dec-10	50	50%	207	400	93%	9	Strong
PRU	Sep-11	38	94%	24	200	733%	9	Rebound
RED	Sep-11	38	96%	8.7	?			Wait
RRL	Dec-11	38	78%	129	250	94%	8	Strong
RSG	Dec-11	38	89%	23	60	161%	9	Rebound
SAR	Dec-11	38	78%	21	90	329%	9	Strong
SBM	Dec-10	50	97%	8	?			Wait
SLR	Dec-11	38	94%	22.5	85	278%	6	Rebound
TBR	Aug-14	3	33%	265	500	89%	9	Strong
TRY	Dec-12	23	91%	46	200	335%	9	Rebound

Non XGD stocks I like

GOR	Apr-11	44	76%	20.5	150	632%	9	Strong
CGN	Sep-09	62	97%	12.5	50	300%	9	Strong
ABU	Nov-11	36	82%	22	90	309%	9	Strong
MLX	Dec-10	50	56%	70	300	329%	8	Strong

I own NCM, NST, TBR, BLK, ABU, CGN, GOR, DRM, MLX.

Is this decline of concern?

Key Points

• US equity market in correction mode
• Bond market frenzy but at levels well below the July 2012 highs
• Many commodity prices down 15-30% since July 2014
• Oil price down on output increases and soft demand
• Shanghai stock market still rising and up 18% since June
• Iron ore price showing signs of recovery
• Major resources stocks bottomed last week!
• Gold prices starting to stabilise and probably moving up
• A$ bouncing back
• Copper and zinc prices holding up well
• Some small cap resources still looking very robust

The current sharp correction underway in the US has brought out significant pessimism on the economic outlook, the valuation of equities and the implications of the global debt position and the current tight liquidity.  The pull backs have been hardest for the sectors that had been strongest and the US `small caps’, the oil and gas and some technology sectors have taken the brunt of the selling. US T-Bonds have had a major fling over this last period.  10 year yields at <2% and 30 year <3%.  After 30 years of bull market. Scary action that is related to the US$ strength and action that strongly suggests an important turning point has now been reached.  This has been expected for some time but not with any success but it still needs to be closely watched.  When set against the background of action in other markets these bonds do look scary. Iron ore and oil have been on the front page with their declines but it is probably just as notable that almost all traded commodities from silver to soy beans have seen similar or larger declines since July.   Many may have bottomed last week. Many of these declines seem irrational against the near term fundamentals so it could be concluded that it is more a matter of liquidation by hedge funds and the like rather than a collapse in overall demand. In particular it is worthwhile to note iron ore imports for China are still strong and growing and in September exceeded 1,000mtpa again.  The last Dawes Points highlighted low steel mill inventories were and that port inventories were coming off again and at just 33-35 days imports these are 40% lower than at the time of the last peak in port inventories.  The iron ore price had all the hallmarks of a final sell off to end a 12 month decline that left about 200mtpa of Chinese magnetite concentrate production losing cash.  At least 125mtpa will soon close so imports for China can only increase. Iron ore prices are rising again now.  It will be interesting to see if they do the unthinkable and rise strongly through a squeeze. Oil is something different and has seen rising US crude production with higher output from Saudi Arabia and Russia meeting softer demand from Asia and a shortage of refining capacity in the US. The unconventional oil output from the Eagle Ford and Permian Basins is too much for US refining capacity and with the US Export Embargo from 1975 still in place the oil is banking up. Oil has the combination of new production, softer demand in some regions, a currency play, production market leadership tussles, substitution and efficiency drives and some good old Middle Eastern geopolitics that could get very ugly.  Trying to work out the fundamental drivers needs some good crystal ball gazing. Nevertheless, the US production growth from shales where technologies are improving recoveries from about 5 to +12% means fields sizes (Estimated Ultimate Recoverable – EUR – reserves) in the important Eagle Ford and Permian Basins are growing from about 350kbbl to about 550kbbl/well and with about 35-40% coming in the first year that is US$8-20m revenue per well.  The fall in oil to about US$80 will make it very hard for the marginal plays but prime Eagle Ford could work down to about US$60.   We need to note that this business is very capital intensive and new wells need to be drilled consecutively to maintain output.  A fall in net operating surplus will delay the next well.  We also need to be careful that this sector has not leveraged itself up to much.  The US E&P Sector has been a great performer as has been pointed out here several times but the sharp fall could be placing some players under great pressure. The Shanghai stock market performance (up 18% since June while Wall Street is down 10%) and the record import of iron ore by China last month doesn’t tell me China is falling over. There is the technical issue of Shanghai Exchange now synching with Hong Kong to make Chinese equities more attractive but I consider it is showing much more. The higher iron ore price last week allowed the big miners to bottom LAST WEEK and hold up well in this Wall St sell off.  Note that this was what happened in 2008 when resources stocks, commodities and China all bottomed in Dec Qtr 2008 whilst the Dow, S&P, All Ords and FTSE etc bottomed in March 2009. The big oil stocks also seemed to make their lows LAST WEEK as well.  Before the big low in oil prices.  Could be significant. Gold is showing very encouraging signs of wanting to move higher with trades at US$1250.  As noted in the last Dawes Points, gold is strong with a strong US$ so it is rising in other currencies even faster. Gold stocks are also starting to move again.  It has been painful these last few years but the ASX Gold Index XGD bottomed in Dec 2103 as did the GDXJ (small caps gold stocks ETF)  even though the major XAU (US Philadelphia Gold Index) and the GDX (its ETF) recently made new lows. Clutching at straws maybe.  But maybe not.  Just check out the performance of the two precious metals royalty companies Royal Gold and Franco-Nevada.  No new lows here.  Strong signals. Much more coming here. The A$ recently had a sharp pull back to just under US$0.87 but it simply came back to the 100 year downtrend again.  The A$ and gold (especially gold stocks) are closely related.  High gold and gold stocks will mean a higher A$. The A$ on the cross rates tells that same story. LME metals have held up well during this crisis.  Supply/demand factors are playing here more strongly than the market action with gold and silver.  Not a lot of new capacity and LME inventories for most metals are still low or declining.  How can you not like zinc, tin, aluminium, copper and cobalt.  Supply side crunches area likely with some of these over the next year or two. And then there are the small caps resources companies here on ASX.  Many with early stage projects are in strife with not much money and limited expectations.  But many with good projects and some funding look very attractive whilst some lucky companies and their shareholders have done very well and are getting more funding.  Scores to choose from. I have stayed the course on this bullish tack because most things I see confirm what I have been saying in these notes for the past two years.   The market has not agreed on many of these points but equity markets ARE heralding better times as are commodities. So, the best way forward is to add to that portfolio of stocks with dividend paying gold stocks, some iron ore plays, some LME metals companies, high yielding oil and gas plays, onshore petroleum E&P companies, some technology metals companies and of course some explorers. Note that the major resources companies have very attractive yields of 3-6% and are at very low risk entry points (BHP 3.8%, WPL 6%, FMG 5.5%, PNA 3.1%, RIO 3.7% , NST 2.9%, OZL 5.0%, ORG3.5%).. The keys are correlated with bonds, currencies, equities and commodities (especially gold) all providing guidance for what the future holds. The right combination of market moves may soon give the signal that cash is too staid, bonds are too risky and commodity related equities are just far too cheap. All these features are telling me that it is not the end of the world, that resources are outstanding value and that resolution of this current bout of pessimism will produce a much clearer and positive outlook that was really always there.  This decline is not a concern but a real opportunity.

Key Points

• Pessimism calls very strong again
• US markets recently made new highs
• Asian equity markets breaking out upwards
• Shanghai stock market up 17% since July
• Chinese steel production running above 810mtpa
• Activity in the smaller caps continues to improve
• Sharp falls in commodities now overdone?
• Could be an important low developing and creating value

The past few weeks has provided a salutary lesson in the volatility in the market place and early calls for the market upturn in all things resources.  The fundamentals of economic growth still look very good and recent market gains for many small cap resources appeared quite constructive.  Stock markets around the world are still signalling much better days ahead. But pessimism is again strong globally and the short term trading trends continue to spook these thin markets where traditional investors are still holding onto defensive positions and lots of cash. A surging US$ has recorded a 7% rise in the USDX since mid July and sent the world looking for deflation/catastrophe havens again due to ISIS and also the tensions in the Ukraine. And whatever else. Most commodities came off more than the rise in the US$ and the continuing chants of Down with China and China Down reached another crescendo despite the Shanghai stock market surging 17% since July and the PMI remaining a good 51.1! The iron ore price and the A$ sank together. So is it all over now for resources? Let’s just review the evidence and consider with the graphics from the last Dawes Points. First

• The world’s largest securities market, US T Bonds, peaked in July 2012, over two years ago. Higher bond yields are now surely coming because the deflation is over and the US economy is expanding. Cash levels are still high.

• China’s economy continues to grow at >7%pa with crude steel production likely to be up >6.5% in 2014 with 8mth YTD figures up 7.6% and iron ore imports at new records approaching 1,000mtpa and up >16% YTD.

• China steel industry data also show a 35% increase in steel exports. The rise in port iron ore inventories gets a lot of attention (note these may have peaked and are now falling) but inventories of iron ore and finished product at steel mills are very low indeed

• Many commodities have fallen 15-20% since July in a market that reeks of hedge fund forced selling.  Some much more. Interestingly, Sugar has experienced a sharp fall but it has reversed and is now heading higher.  Is it a leader?

• The current high volatility into lows for in the US equity markets could be suggesting a trend change – to up!

• Gold in US$ is still doing OK but during this time of dollar strength we have gold prices in most currencies breaking 3 year downtrends and turning up.  Encouraging but there is very bearish sentiment.

• Most metals have low or declining inventories and several like tin, zinc and nickel have medium term structural deficits that MUST result in squeezes. Many other metals are just tight.

• The A$ in most of 2014 had been consolidating after its last selloffs in 2013 and then in January.  This last pullback of 7% matches the US$ rise and very interestingly is just back to the support on the 100 year downtrend line of A$ vs US$.

• So many markets have broken the 2011 downtrends with good rallies only to fall back to support on these important downtrends.

My travels in the past few months have taken me to site visits in some exotic locations but also Singapore and just now Melbourne for IMARC. I delivered a paper at IMARC on an outlook for the A$ with key conclusions being

• Resources exports having risen from A$50bn in 2014 to almost A$200bn in 2014 will get another big kick from the new LNG plants that will increase this to A$280bn or more by 2020.

• The LNG exports will stimulate a major surge in activity in onshore oil and gas.

• The A$ looks very good on the cross rates against Yen, Pound and Euro.

IMARC also brought out the extraordinary productivity gains in mining technologies such as Orica’s amazing new blasting techniques that can separate overburden from ore and also cleverly use chemical energy to fracture rock to smaller pieces rather than using slower and more expensive mechanical energy. RIO, too,  is well on the way to higher productivity in iron ore mining with driverless blast drilling, driverless excavators, driverless truck and of course driverless trains. The productivity benefits are only now being felt but you can be assured that the blow out in costs is being rapidly wound back and that Australian mining companies will again be very competitive. All these market actions seem to me to be suggesting a short term panic that has just about run its course and is leaving outstanding value on the table.

Barry Dawes

Head of Resources

BSc F AusIMM(CP) MSAA MSEG

Follow me on Twitter @DawesPointsBarry Dawes’ expertise in the Australian resources sector is based on his knowledge as a geologist combined with over 30 years’ experience in the resources investment sector. Prior to founding Boutique Investment Firm “Martin Place Securities” in 2000, Barry had worked in senior executive roles of investment management with BT Australia, equities research for Bain Deutsche Bank and equities research and corporate finance for Macquarie Bank. He is currently a Director of a number of unlisted public operating companies. Barry has a substantial depth of knowledge and experience in the international resources industry and is well known for his views on the sector. 

 

   

Key Points

• Gold’s supply/demand picture suggesting major deficit developing
• Strong physical demand for gold in China
• Even stronger physical demand for gold from India
• Technical evidence indicating powerful global move in gold equities
• Gold stocks are extraordinary value
• US$/A$ reasserting relationship with gold
• Is there a whiff of inflation out there due to gross expansion of money supply?
• Stock BUY recommendations: NCM, NST, OGC, SAR, SLR, MML, BDR,GOR,BLK

Gold has been in a broad uptrend since is its lows in 1999 at US$246/oz and the combination of strong physical demand from China and India, with the usual financial and monetary profligacy of the Western World's banking system, suggests this 15 year bull market still has a very long way to go. The 650% rise to US$1923/oz over 12 years and the subsequent 37% decline over two years to the June 2013 low of US$1198/oz is a reasonable correction to such an upmove.  However, the 65% decline in the US gold indices and the 80.0% decline in the ASX Gold index don't really stack up as corrections that are reasonable. The result though is an extraordinary opportunity to NOW buy highly valuable assets at a fraction of their current true worth and at an obscene pricing against their longer term values.   TALK TO ME NOW! In 2009 I made a very public price forecast that we would see US$5,000/oz over the next few years and now consider that this will come to pass before 2017 as the next leg of the bull market takes hold. So what are the key drivers to make these sorts of claims? Yes, you say I am always optimistic.  Well yes.  I am bullish because of what the markets are telling me.  Gold rallied from the US$248/oz low in 1999 and in 2002 I forecast US$1500/oz would be achieved in the coming bull market.  The price target was exceeded.  Was that being bullish or optimistic?  The US, German and Indian markets are at strong all time highs as I have been highlighting over the past couple of years. Is that bullish or optimistic?  Well, who cares really?  As long as it is a correct forecast it doesn't matter.  Have a look at the performance of most markets from cyclical lows (that are always accompanied by never ending pessimism) and you will be amazed at the percentage gains the subsequent rallies achieve.  Getting the direction right is 80% of the outcome. Chinese steel production reaches new record levels as was forecast despite all the wails of it’s imminent collapse.  Was that Paradigm forecast of strong production growth optimistic or bullish? When the Chinese steel mills finally sort out their inventory policies and the world recognises that record imports of iron ore into China and record exports by Australia against a backdrop of uneconomic Chinese domestic magnetite concentrate production result in a much stronger seaborne iron ore market into 2015, will that be bullish or optimistic? The markets have been telling us very clearly that the claims of US Depression, banking collapse in Europe and China falling over were just wrong. Was that being bullish or optimistic?  Or was it really reflecting the `facts’ that the markets were telling us weren't the same as the `facts' that the Wall Street economists and their ilk were (and continue to do) forcing down our throats. So being negative, optimistic, bullish or bearish is not so very important but what IS important is recognising what REALLY are the major issues as shown by the messages of the markets. The daily evidence of far better than expected economic data from almost all countries puts paid to the bears and their stories of financial Armageddon.  And the bears have much to answer for. But coming back to gold. Well, what are the drivers for the renewal of the gold bull market.  Demand, Supply, Inflation, Wars, Bonds, US$?  All of the above? I much prefer to think about supply and demand because the other issues are more guess work or just market sentiments that can wax and wane. The Goldfields Minerals Services (`GFMS’) and the World Gold Council give some useful data on this supply and demand for gold and I have done some navel gazing and added my forecasts.  Forecasting is always difficult, especially forecasting the future as Samuel Clements (Mark Twain – one of the world’s true geniuses) would say.  Have a look at these numbers from GFMS with Paradigm forecasts. These figures suggest a net change in demand of 1000-1200tpa to be drawn down from inventory is likely to occur over the next few years. These are very large and possibly very important numbers for the future of gold prices. But first let’s look at these numbers now and review what has happened over the past decade. First, look at Mine Production. From 2,504t in 2004 to 3,022t in 2013.  Long term compound growth rate is 2.1% pa.  Several big +5%pa growth years but many as declines or just modest gains.  Sth African gold production has collapsed as the goldfields on the Witswatersrand run out of easy ore and totally out of friendly high risk capital. Major players USA and Australia have also declined with Australia less so.  Peru is rising but it has been China that has surged to become global #1 at over 420tpa. It is quite sobering to review the high level of global exploration expenditure for gold and the low gross discovery results to date. Mine production has only achieved 2.1%pa despite the 12 years of rising gold prices.  However, don’t be fooled by the gross numbers because focussed gold explorers are still doing well in Australia and also in other parts of the world such as Africa, SE Asia and Sth America.  Just watch for the key players mentioned below!  Some explorers are better positioned than others. The net conclusion is that gold mine production growth is unlikely to be able to exceed 3%pa for the next five years from my assessment and primarily because the big players such as US, Russia and RSA are likely to decline and offset strong growth in Africa and Sth America. Unit production costs have been rising due higher input costs, overall declines in mill head grades and increasing operating depth of mines.  Some established mines have suffered from these rising costs but most new mines have been engineered on much lower head grades so will be pushing unit mining costs higher.   The GFMS latest figures for all-in costs have been at over US$1600/oz. Cost pressures are definitely reducing and everyone in the gold mining industry is now extremely cost conscious.  Expect to see significant drops in some operations. Nothing as volatile as gold will allow gold production to grow at a steady 3%pa.  Try up 10% or down 15%.  But let’s use some 3%pa numbers to guess what we think the gold industry might achieve.  3,082t in 2014 and 3,271t for 2017. The next issue in Scrap Supply. High prices bring out a lot of scrap and high prices into 2009-2011 brought about a 100% increase in supply to a peak of over 1,725t in 2011. Gold is a strange beast given that almost all the estimated 170,000t mined in history is theoretically still available as supply yet as gold is shifted into strong hands and as weak sellers are probably exhausted it may be that scrap supply does not increase greatly from here. So total physical new supply is plateauing around 4,400tpa with a modest annual increase expected. Part of new `supply’ was reduction in hedging and eventual netting out of gold sold forward.  Mines had `borrowed’ and sold gold from bullion banks in their hedging and so as they delivered gold into these hedges they were `repaying’ bullion banks and not adding to new supply to the market. Miners are likely to add to short term hedging positions but as these are likely to be `current’ items of less than 12 months it should not significantly add to annual figures. Central Banks used be a part of the `supply-side’ equation but as they are now on the `demand’ side they don’t figure here anymore. So total gold supply, whatever that means, is around 4400tpa and has been growing at about 4.2%pa over the past decade. The demand side is now very interesting. Jewellery demand (mostly high carat (20-24ct) investment chain) is driven mostly by Indian Diwali requirements from rural villages in weddings and dowry gifts. Western jewellery in 18ct rings, watches and the occasional pendant don’t add up to much compared to Indian demand.  India’s love of gold is underpinned by a traditional drive to improve family wealth and as the rising middle classes in India increase their affluence, so the demand for gold can only increase. Indians save about 30% of their incomes and about one third goes into gold with about 75% into jewellery. Quotes from The World Gold Council’s 2010 survey of India include `Gold is an integral part of daily life where purchases of gold jewellery are considered as a form of liquid and tradable investment for the accumulation of wealth.  It is important to highlight that in analysing the gold market in India, traditional perceptions between jewellery and investment demand and demand drivers do not apply.’  And also that the allure of gold is its hedge against a depreciating currency and preservation of wealth.  Jewellery demand is really investment. Primary gold demand in the domestic market in India is almost all in the form of 3.75oz `TT’ bars (10 tolas) and in chain for jewellery. India in 2013 introduced an import tax on gold that eventually reached 10% to try to offset a balance of payments crisis and also required importers to re-export 20% of imports.  The new Modi Government, elected in May 2014, is likely to reduce the tax in stages and allow substantial pent up demand to flow through.  Substantial smuggling of gold to avoid the import tax appears to have been underway through China and Myanmar so the immediate impact may be muted but longer term demand following rising living standards in India is likely to remain firm. The brilliant work from Koos Jensen (www.Ingoldwetrust.ch ) in tracking down Indian and Chinese gold data is truly illuminating and this graph below shows that monthly demand into the Indian market in 2013 exceeded 110t/month. In China where the economy is far more advanced, the demand for gold is also for jewellery but more is for bars.  The character of the Chinese market is fascinating in that government decrees require ALL gold brought into China or sold to the market must go through the Shanghai Gold Exchange.  In 2013 China produced 428t of gold and imported 1,540t to give a demand of about 2000t.  As at the end of May 2014 850 tonnes of gold had passed through the exchange into the Chinese domestic market.  Bars are usually 1kg and 100g bars that have been produced from reconfiguring 400oz London Bullion Market inventory via Switzerland, London and Hong Kong.  Interestingly, gold market participants are not reporting ANY Chinese refined bars in the export markets! Koos Jensen’s numbers on Chinese imports and jewellery are higher than the GFMS data presented above but it is notable that there have been months when Chinese gold demand ( in RED)  has exceeded annualised global mine production (in YELLOW). It is clear that most Indian and Chinese gold demand is primarily for investment so when we add it all up (jewellery, bars and coins) total investment demand it looks something like this:- Jewellery demand is expected to grow by 6% in 2014 as the Indian tax is reduced and then removed and forecast to grow by 4%pa out to 2017. The demand for gold bars for investment and for coins has been extraordinary over the past decade.  215t in 2004 to an estimated 1500t in 2014.  Very strong demand from China and India. Coins have increased from 125t to over 400t and climbing.  Robust demand from all over the world should keep growing for years to come. The EFT phenomenon from 2004 to 2012 saw a massive 2300t directed to these funds and then a substantial 880t drop in 2013.  The numbers appear to have stabilised at about 1800t and may be resuming an upward trajectory.  But EFT demand of 200tpa for gold is tiny compared to that from China and India. In 2014 total investment demand of over 4800t should well exceed mine production of 3100t plus scrap of 1300 tonnes totalling 4400t. If EFTs and Central Bank demand are added then a significant deficit of over 500tpa will be developing from 2014 onwards. This is in great contrast to the substantial `surplusses’ of the decade prior to 2013. *(central banks and ETFs excluded prior to 2010 as were small or negative) These numbers also clearly suggest that gold demand is ignoring `Fed policies’ and Wall Street arm waving about US-centric values and is just getting on with life. Who cares about Fed interest rate policies if the Monsoon harvest is going to be good this year! So what does this mean? Essentially the graphic says that gold is moving from Western inventory to Asia.  The tonnages involved are so large that you have to ask just where is all the gold coming from? It is unlikely that it is coming from retail scrap or from local US `investors’.  Oil prices are high and rising again so Middle Eastern players probably don’t have to sell their gold right now.  Indeed, you can ask, just who are the suppliers of gold now? The gold market is also very suspicious of US activity in the gold markets through intervention by the US investment banks.  The outstanding contracts to COMEX gold inventories ratio recently exceeded 100:1 and it is clear that heavy selling has kept gold prices subdued. The high market shares in the gold market held by China and India have led to concerns over the role of COMEX on price discovery so the establishment of active cash gold exchanges at Shanghai and Singapore may soon leave COMEX as a price follower and not a leader.  We all have seen the lack of connection between physical gold demand and the action in the future markets. Let us just say that it hasn’t made any sense. Looking behind these numbers also strongly indicate the sale of gold from someone’s inventory but the question is whose inventory? And can there be much left? And where would the gold come from if there was no-one left to be selling? Well, let’s ask the markets. The long term uptend is still intact and the indicators are still oversold.  A rally is due now. In A$, gold is not so clear but I consider the supply/demand pressure will soon clarify the matter. Note that the A$ gold price today is A$1,400/oz.  About the same as in April 2011. I can’t discuss the gold outlook without reviewing the US T Bond market.  Rising bond yields can indicate many things but the most important indication to me is the end of disinflationary times that have accompanied the 30 year bull market in bonds.  This bull market is ending in a drawn out saga since the bond prices peak in July 2012 and the rearguard action to hold prices up against the evidence. Rising yields indicate a growing global economy, rising commodity prices and a recognition that far better returns can be made in equities than sitting in low interest rate bonds and face capital losses. And the US$80 trillion global bond market is going to provide a lot of cash to drive up other markets, like gold, commodities, resources stocks and general stocks. The 10 year T Bond just looks ready for a major surge in yields.  Don’t jump to a false conclusion that rising bond yields is bad for the stock market.  Think of it as a flow of funds out of bonds into stocks! Inflationary pressures appear to be building in many areas (other than labour!) and the Middle East issues are exacerbating the passing of Peak Conventional Oil.  I expect higher oil prices to come through and new highs before 2016. Now coming to gold stocks. It is worth starting with the major US gold index, the Philadelphia Gold Index (XAU). Still very oversold but suggesting a bottoming out and a rally starting. And a very long way to go! Even better is looking at the SPDR GOLD ETF GDX which parallels the XAU.  This is an ETF and it shows trading volume. Note the very large volume in Dec Qtr 2013!  This is a classic high octane reversal pattern that supports a major rally from here.  And it is underway NOW!  Up 17.5% from the low. Its junior cousin GDXJ is looking even better!  Note the big volume in 2014 and not 2013.  Early investors went into the large caps first and now into the smaller caps which are up over 20% from the low! Short term moves are classic market-direction changing reversals in both ETFs.  Expect some back and filling in both GDX and GDXJ but NOW IS THE TIME TO BUY FOR A MAJOR RERATING. What was that I heard about someone saying an equities explosion was underway? First in gold stocks.  Then watch oil stocks get another move on up. Then Copper, Zinc and Lead. Here in Australia the ASX Gold Index XGD also had a magnificent 12 year run that took it up 750% to the April 2011 and post GFC highs of 8499 to then retreat 80.0% to just 1703 in Dec 13. As was noted above, the A$ gold price of about A$1,400/oz today is almost identical to the level when the XGD peaked in 2011. And the XGD is now >70% lower. The Index is a proxy for gold sector companies but many non-Index companies have done far worse than the 80.0% decline in the XGD since those highs in April 2011. But overall, the Australian Gold Stock Market presents a fascinating grouping of companies that offer some exciting opportunities to join in on the ride. Focussing initially on the ASX Gold Index which is currently made up of 25 stocks you can find that like any good index it has its performers, also rans, laggards and duds. Of the 25, 5 are in good recovery uptrends, 15 are basing readying for an upmove and 5 are still looking at downtrends. The diabolical performance of gold stocks around the world since April 2011 has never made much sense to me at all and hence the continuing bullishness based simply on value. Extraordinary value exists in ASX gold stocks. The table below looks at the current ASX Gold Index  XGD. I have reviewed these 25 stocks in the Gold Index in a very simple and superficial analysis that that has more to do with price than value.  In my opinion the valuations are so low that the Index could be up 200% before we would need to sort out the best relative value. Most stocks are BUYs because they are so cheap and the current run in gold prices makes them even cheaper. So let’s look at them Note that many stocks have their assets overseas and for most country risk is in the eye of the beholder. With MRRT, Carbon Taxes and restrictive workplace practices many consider Australia a country risk but the rising Middle Classes around the world are making most jurisdictions more secure so country risk is declining everywhere.  Obviously some places in the Middle East and the former Soviet Union are still very risky but most of Africa, Sth America and Asia seem reasonable risks today. A = BUY stocks in uptrend B = BUY stocks needing a pull back before entry   C = Stocks that need time No stock in the XGD is considered a fundamental SELL at present. The strong moves of some stocks against the XGD Index’s 9% since 30 June 2013 are very encouraging and shows the market does appreciate good operating performances, particularly if it is corporate buyers paying a fair value rather than the low participation rate markets just looking at price not value.  Some stocks such as SAR, are up 2-3x from their lows and are well outperforming the Index.  It is indeed a matter of a rerating of the gold stock market.  Fears of a major fall in the US$ gold price are just part of the drivel from Wall Street hustlers trying to cover their large short positions. From these stocks in the XGD and a few more I have put together a portfolio with biggest weightings to large stocks and a collection of mid cap growth opportunities and a selection of more speculative plays.  The stocks highlighted in YELLOW are my SUPER STOCKS that I expect to do very well indeed.

Stock	Holding	Price (A$)	Location	Comments
Large caps
NCM	10.0%		Australasia	Big cap market leader
NST*	10.0%		WA Yilgarn	Major rerating
OGC	10.0%		Philippines	Growing production
Mid caps
SAR	7.5%		WA Yilgarn	Low cost growing output
SLR	7.5%		WA Yilgarn	Rationalised operations
MML	7.5%		Philippines	Low cost growing output
BDR	7.5%		Brazil	Very low cost producer
SBM	7.5%		Australasia	Overcoming issues
Small caps
GCY	5.0%		WA Gascoyne	Developer
ABU	5.0%		NT	Producer/Explorer
ATV	5.0%		Canada	Developer
RMS	5.0%		WA Yilgarn	Producer
GOR*	5.0%		WA Yilgarn	Explorer
BLK*	5.0%		WA Yilgarn	Developer
TRM	2.5%		NT	Explorer
Total	100.0%

*Super stocks Let’s monitor this portfolio over the next six months or so.  I am not a trader so the portfolio won’t change.  WYSIWYG The implications of a strong gold price and strong gold stock market come back to the A$.  This graphic tells me a lot. And this one even more. A$ long term from 1913. The short term is looking very good. Don’t be worried about a high and rising A$.  You will just become wealthier. For exporters, Australia’s structure of high labour and other costs is simply unsustainable.    Current work practices just have to collapse and become totally flexible.  The rising A$ will ensure big changes are going to have to be made. And finally to those who don’t think that an equities explosion is underway, try these two Paradigm SUPER STOCKS that I have been referring to over the past 9 months or so.   So much more to come! Barry Dawes Follow me on Twitter @ DawesPoints I own NST SLR MML ABU ATV GOR BLK TRM LNG LMB