Preserving wealth in a volatile political and financial world is a job for gold. Greg Weldon, publisher of Weldon's Money Monitor newsletter and Grant Williams, a portfolio advisor at Vulpes Investment Management in Singapore, will share their insights at the Cambridge House California Investment Conference Feb. 11–12. In this exclusive interview, they answer the question: How high and low could gold and silver go in 2012?
The Gold Report: Recent headlines continue to focus on the debt crisis in Europe as more countries are having their debt downgraded. Greg, you have diagnosed the problem as credit addiction and said that the European Union won't be able to recover until leaders take painful measures necessary to kick their addiction. What does this mean for commodities and commodity equities?
Greg Weldon: It's critical for asset prices across the globe. It is a debt addiction, debt refinancing and deficit financing problem, not only in Europe, but also in the U.S. and Japan. Austerity is the real answer to the fact that there is too much debt, and austerity measures in an economic sense are not positive.
My fear is that it's going to be very difficult to see how economies in Europe, the U.S. and Japan can stand on their own two feet without the assistance of central banks debasing currency through debt monetization. I liken it to filling the sink halfway up with water and pulling the plug out of the drain. Of course, the water level will recede unless you turn the faucet on and start more water pouring into the sink. The level of water represents asset prices, the water flowing out of the faucet represents liquidity provided by global central banks and the drain represents the real macro economy, which has not been fixed.
At the end of the second round of qualitative easing, when the Fed shut off the faucet, the water level (asset prices) started to go down. But now the water is running again—particularly with some of the measures instituted by the European Central Bank, with its three-year loan program, the federal liquidity swaps and the back-ended way that it's managed to involve the International Monetary Fund.
The problem with all of this is it does nothing to fix the underlying problem, which is too much debt. This is not sustainable. Central banks turning on the water faucet is good for asset prices. The real solutions of fiscal austerity, which are probably not palatable to most politicians in Europe, are the real struggle as we go forward. This problem is not going to go away.
TGR: Grant, in your Things That Make You Go Hmmm…. newsletter, you painted a picture of the final implosion of the euro and U.S. municipal bond meltdown. What would this mean for resource stocks?
Grant Williams: That was part of a prediction piece that I wrote at the end of 2011. It was semi-tongue-in-cheek. My contention was that as volatile as 2011 played out, we didn't actually get any resolution. And it feels like 2012 will be the year those resolutions start to take place. One of the primary ones is the European situation. A Greek deal to solve the crisis seems to constantly be on the horizon, but they can't seem to come up with an absolute solution to the public sector involvement haircut issue.
When they do, I think it's going to be the start of a whole slew of legal action to try and either trigger credit default swaps or negate any haircut from those who don't want to sign up. Greece has a big refinancing coming up in March. It has to raise a little over €14 billion (B), and between now and then it somehow has to get a $130B loan package approved from the Troika. It is very hard to see how Europe can just keep pumping money into Greece. It's very likely we'll see Greece exit the Eurozone then, and that's going to focus everyone's attention on Portugal. I think Italy will be OK. Spain worries me more than Italy because the economy there structurally is in far worse shape. But if a bunch of countries pull out, that leaves the question of how people unwind any obligations they have in the current euro construct.
What this means for commodities is that the money-printing presses are going to be turned up to the max again. Despite adamant claims from politicians to the contrary, money printing—even if by another name—will have to be implemented at a magnitude much, much higher than ever before to meet current demands. Cash is being given to banks basically for free through the long-term refinancing operation on the quid pro quo that the money finds its way back into the government bond market.
The problem is that a lot of this money is going to leak out somewhere other than where it is intended and I suspect it's going to leak into commodities and equities. We are going to see stock markets float higher, not necessarily on particularly good numbers from corporates, but from the simple dynamic of a lot of freshly printed money looking for a home. We have already seen it in gold and silver this year. They both had big corrections in December, but they are two of the best performing assets of the year so far and I suspect the more money they print this year, the faster these things are going to go up.
People are starting to understand that deflation is not an option for the central banks. Once people realize that if we get a brief period of deflation, it will be fought aggressively with inflation, they will start to look past any deflationary period and position themselves for inflation. That is going to mean higher prices in commodities.
TGR: How high could gold and silver go in 2012?
GWilliams: I think gold trades at $2,200 an ounce (oz) this year. I think silver trades at possibly $60/oz this year, but they're really just stepping stones on the way to higher ground. This 11-year ascent in both precious metals is only going to change when central bank policy surrounding it changes. I just don't see that happening in the foreseeable future until they get this debt problem under control.
We are going to see periods with crazy spikes. We are going to see corrections. Some will view this as a collapse but the difference between a correction and a collapse is your entry price. If you bought gold at $700/oz a few years ago and you watched it go from $1,900/oz to $1,500/oz in December, that's a correction. If you bought it at $1,900/oz, it's a collapse. I think it's important to try and take a longer view. The rationale for owning gold and silver is still in place. In a world of printing presses and fiat currencies, no one can manufacture gold and silver out of thin air. I think they are both going to go a lot higher.
TGR: Greg, what are your predictions for 2012?
GWeldon: There is a disconnect in the markets. Currencies really aren't moving much either. The dollar hasn't appreciated much. This is why gold is stuck in this range, capped just above $1,700/oz, with potential downside toward $1,300/oz. People are liquidating commodities. My sense is that there is more weakness to come in H112. Commodity prices in Q411 have already come down significantly, pumping some relief into margins. There is a little window of opportunity here where equities and some of the commodities markets could have some upside.
Debt could become an issue again in H212 depending on how central banks deal with that and whether we have a big downturn again in the stock and commodity markets. My longer term view is that when push comes to shove and central banks are staring into the abyss of a potential debt deflation, they will choose to reflate at whatever cost. That is bullish for gold long term. If banks can find the political will to do it, there will be significantly higher prices for commodities across the board in the long term.
China, in particular, has a bullish dynamic. Certain commodities, such as copper, have their own supply-demand dynamics that are detached from the dollar and monetary policies. The Chinese imported copper at a record high in December. Copper stocks on the London Metal Exchange have fallen by close to 30% since October. Copper is one of these commodities that has upside potential regardless of what the dollar is doing.
TGR: Grant, you are based in Singapore. There was a lot of talk at the last Cambridge House Conference in Vancouver about whether China is growing, shrinking, landing hard or soft. What impact will China have on commodities and equities around the world?
GWilliams: China faces a lot of problems. A lot of people think it is in for a hard landing. It is always difficult to believe official Chinese statistics, but the message that the Chinese government is sending through those numbers can be useful. For example, the Chinese growth numbers last week showed an 8.9% increase in gross domestic product. In a world of basically zero growth, that's a pretty good number, but it's not the double-digit number we've been conditioned to expect from China.
Whether it was true or not, it shows that the government is saying: things are OK. We are on top of this, we're in control. We are not going to slow to zero; we're just going to grow a little bit slower. The big problem China has is inflation. Roaring food inflation in a society in which half the population lives in relative poverty in rural areas would be a big issue. A lot of people talk about property bubbles—and there are definitely bubbles in Chinese property—but as long as the government can keep people fed, it is going to find a way to get through this—at least for now.
China also has vast currency reserves. The Chinese absolutely understand that paper currency is being devalued incredibly quickly. So, until someone puts a sell-by date on copper and iron ore, it will keep stockpiling the stuff because it will need these commodities to continue growing. China will continue to swap paper money for commodities. The Chinese are bringing gold into the country as fast as they possibly can. Gold is in the DNA here in Asia. It doesn't take an awful lot to persuade the public to own gold.
