Gold and silver haven’t performed well in the past several months. Will precious metals recover from their recent tumble? Some people still consider gold an investment worth having. The leading arguments aren’t surprising: Central banks are printing money, global debt is rising and gold has done very well in the past decade. Let’s take a close look at these arguments and consider their validity. Let’s also examine how gold and silver companies have performed in 2013 (up to date).
The recent fall in the price of gold has also reflected in the gold ETF SPDR Gold (NYSEMKT: GLD). This ETF also hasn’t performed well as its price tumbled down by more than 6% during May. The trust’s gold holdings plummeted by 25% since the beginning of 2013. Moreover, the number of shares has also declined; by the beginning of June it reached only 336.8 million – a drop of 68.8 million shares since the end of the first quarter of 2013. If the price of gold will continue to dwindle and the demand for gold as an investment will further drop, the SPDR Gold ETF will further lose customers.
Printing money and rising debt
Leading central banks including the Federal Reserve, Bank of Japan and Bank of England have been printing money (also known as quantitative easing) in recent years. For U.S investors the main concern is mostly related to the Fed’s QE programs including the current program of purchasing $85 billion of long terms securities every month.
Due to the Fed’s QE programs, U.S monetary base sharply rose in recent years. U.S national debt continued to grow and reached more than $16.8 in the first quarter of 2013, which is more than 100% of the U.S annual GDP.
Moreover, in recent years, long term real interest rate tumbled down, partly because of the Fed’s QE programs and partly due to the rise in risk aversion of many investors.
These factors helped pull up the demand for gold as a safe haven investment. But up to now the concerns of a sharp devaluation of the US dollar hasn’t occurred. Further, the U.S inflation remained stable and is currently below the 2% mark.
In recent months, long term real interest rate remained stable. This could indicate investors are becoming less risk averse and are pulling out of long term treasuries. As the market becomes less risk averse, safe haven investments such as gold and treasuries are likely to suffer as seen in the chart below.
This shift in long term real interest rate occurs despite the Fed’s QE3 program. If the Fed will taper its asset purchase program we might see a further drop in demand for gold and treasuries.
The upcoming FOMC meeting in the third week of June might shed some light on this issue. Many speculate the Fed might taper QE3.
The high debt of leading countries including the U.S will continue to pose a threat on U.S economy’s stability. But unlike Spain or Greece, the U.S is always able to print funds if needed. Moreover, Japan has been having a similar problem of low inflation and high debt for more than a decade. BOJ has been printing money for years; this process has yet to cause any inflation outbursts and the Japanese yen is still considered a safe haven currency.
Let’s turn to the recent developments of precious metals companies.
Expanding exposure to gold
Despite the sharp fall in the price of gold in recent weeks, Silver Wheaton’s (NYSE: SLW) management has lately decided to expand the company’s exposure to gold by purchasing Sudbury and Salobo mines. The result has already reflected in Silver Wheaton’s first quarter financial results: Its gold production spiked to over 32 thousand ounces compared with 2 thousand ounces of gold produced in the same quarter in 2012. The company’s rise in debt to finance this deal won’t pose much of a threat on Silver Wheaton: Its debt to equity ratio is still low at 0.34. On the other hand, the drop in precious metals prices could pose a strain on Silver Wheaton’s cash flow down the line.
Based on the company’s current projections, gold sales will reach nearly a quarter of the company’s total revenues in 2013 compared with only 9% a year earlier. Considering the sharp drop in the price of gold in recent weeks, the company’s profit margins and revenues growth are likely to fall. Silver Wheaton will slightly decline in the coming quarters but will remain high compared with other precious metals companies.
Gold Producers
The weakness in the bullion market has adversely affected leading gold companies such as Barrick Gold (NYSE: ABX): The company’s revenues fell by 5.6% in the first quarter of 2013 (year-over-year) and its profit margin slipped from 44% in the first quarter of 2012 to 39% in the first quarter of 2013. Among the contributing factors for the drop in profit margin and revenues were: Gold production declined by 4.4% during the quarter; amount of gold sold fell by 2%; realized price of gold decreased by 3.6%; all in sustaining cost of gold production rose by 1%. Considering the sharp drop in the price of gold in the past couple of months, Barrick’s revenues from gold is likely to further fall in future quarters.
Take Away
If the Fed will taper its current asset purchase program, this could only lower the demand for precious metals as safe haven investments. If the demand for gold and silver as investments will continue to dwindle, prices are likely to follow. Finally, precious metals companies will reflect these developments as their profit margins and revenues will continue to fall.
For further reading:
- Gold and Silver Outlook for June
- What Could Impede This Gold Company?
- Will The Gold Market Continue to Cool Down?
- Gold and Silver Yearly Outlook For 2013
Disclaimer: The author holds no positions in stocks mentioned and does not plan to initiate positions within 120 hours of the posting of this article. This article is to be used for educational, research and informational purposes only and does not constitute investment advice. There are no guarantees, expressed or implied, of future positive returns in regards to the subject matter contained herein. Understand the risks inherent in investing before making the decision to invest or consult an investment professional for more information. Reasonable due diligence has been performed in regards to the information in this article. However, the author expressly disclaims any liability for accidental omissions of information or errors in fact.