China On My Mind... Gold Outlook

Emanuel Balarie
Feb 22, 2007

After several months of hibernation, I am back and ready to start writing commentary again. Over the last several months I have been busy writing a book on the commodity markets. This has taken up most of my "writing time", but I am happy to report that the book is finally complete!

Commodities For Every Portfolio: How To Profit From the Long-Term Commodity Boom is a book that I wrote primarily for investors who want to know more about why we are in the midst of a multi-year bull market in commodities, the different ways of participating in this commodity boom, and the various reasons for why commodities, as a diversifying asset class, belong in a portfolio. You can pre-order copies by clicking here.

Commentary

China has been on my mind lately. Perhaps it is because I just recently finished writing a book that touched upon China's voracious appetite for commodities. Maybe it's because I am going to be speaking at a commodities conference in China in a couple months. Or maybe it's simply because the country seems to be constantly in the news when it comes to its GDP growth, commodity demand, and its ever growing record reserves.

Whatever the reason, I think that it is evidently clear that China's impact on this commodity market is substantial. In fact, China should be on the mind of most every investor. I firmly believe that if most people understood the magnitude of China's commodity demand, they would more easily understand the characteristics of this commodity bull market. In short, what happens in China will not stay in China. It will ultimately have an impact on what happens in the commodity markets and what happens here in the U.S. Continued commodity demand will lead a continual rise in commodity prices. In turn, this will mean that you and I will both spend more money on goods and services. This is why it is so important to hedge your wealth against inflationary pressures.

Chinese Headlines

Aside from the more obvious headlines about China's GDP growth and record reserves, China is also in the news when it comes to various articles painting the picture of what is truly going on in China. Here are just a few examples of some of the more recent news headlines:

China is on its way to becoming the world's fastest growing wine market

BMW's 2006 Asian sales rise to record on Chinese demand

Cartier Jewelry expands into China

McDonald's opens drive through in Beijing

China soon to be world's biggest internet user

African exports to China up 37%...

What you will readily notice about these news articles is not only the rapid expansion that is taking place in China, but how this expansion encompasses a wide variety of market segments. Whether it is wine consumption, food consumption, gold jewelry consumption or the purchase of a new BMW, the central theme is simply that the Chinese are getting richer by the minute. Indeed, these headlines show that it is not just the reserves of the Central Bank that is growing, but also the reserves of the Chinese consumer.

Indeed, the growth of the Chinese consumer is an often overlooked aspect of this commodity bull market. While the first stage of this bull market was unequivocally pushed higher by the demand for industrial materials, like copper, zinc, oil, cement, etc., the second stage will be categorized by the growth and impact of the emerging consumer( from China, India, and other emerging economies). As the consumer starts consuming more goods and services, this demand will inevitably spill over to the commodity markets that make or fuel those goods and services.

This concept, of course, should not be too difficult to understand. The U.S. economy is primarily consumer based. Greater than 70% of GDP growth comes from consumer spending on clothes, housing, cars, luxury goods, food, and other items. In China, however, consumer spending accounts for less than 50% of GDP growth. Imagine what would happen if most of the Chinese consumers (not just the top echelon) started spending like U.S. consumers? With over 1.3 billion people, this demand would continue to be a driving factor behind this commodity bull market.

Year of the Gold Pig

2007 is the year of the Gold Pig. Children born in the year of the gold pig, which only comes every 60 years, are supposedly( according to Chinese zodiac signs) going to lead a charmed life and will bring great luck to the couple. Not surprisingly, Chinese hospitals are bracing themselves for a baby boom in 2007.

But what does this mean for gold and gold demand? Well, the first thing is that jewelers in China are already experiencing an increased demand for jewelry and gold pig jewelry. This of course, is to be expected. But beyond this increased demand for gold in 2007, Chinese consumption of gold is also on the rise as citizens are now making more money. In 2006, gold consumption increased by 17% even as gold prices finished the year at much higher prices. In comparison, gold consumption in the U.S. declined by 10%. Not surprisingly, China is now ranked 3rd in terms of gold consumption behind the United States and India. It is only a matter of time until China overtakes the US in terms of consumption.

Gold Outlook

In my last commentary way back in November, I stated the following:

"It seems that the 570ish level was indeed a base, as gold prices have recently broken through the 612.50 resistant levels to climb above the $630/ounce level. At this level, I expect gold prices to move up and down but I am confident that we are now back on track with gold. The recent move up broke the downward trend of recent months. I would expect the 612.50 level to be a good level of support and still would not be surprised to see gold prices have a sharp rally to new highs before the end of the year."

Even though I have not had an opportunity to post updated commentary, I do believe that the gold bull market is indeed back on track. Gold prices have been especially strong in the midst of volatile and declining oil prices. While oil prices have generally moved alongside gold prices from a longer term perspective, the last couple of months has signaled a decoupling of gold and oil.

This once again points to strong consumer demand for the shiny metal, regardless of what oil prices are doing.

While I do believe that rising oil prices will have a positive affect on the price of gold, I do not believe that it is the main factor. The declining U.S. dollar has been and will continue to be the driving force behind higher gold prices.

As you can see from the above gold vs. dollar chart, the gold bull market started as the dollar began its decline. Why is this so significant? First, a declining dollar will result in Central Banks diversifying out of their substantial dollar reserves. In fact, this has already started to take place. Russia, United Arab Emirates, and China are just a few of the countries that have either expressed or actually started the process of diversifying out of the dollar into other currencies and gold. Since gold is priced in U.S. dollars, a declining dollar will also translate into cheaper gold for citizens that own other currencies. In other words, citizens in China and India will now be able to purchase more gold for their "buck".

Where Do We Go From Here?

Phase II of this gold bull market is well on its way. While the sell-off from $720/ounce was well warranted, the gold market is now in a healthy uptrend that is primarily driven by fundamentals, rather than speculation. In the next several months I expect gold prices to retest the $720 high and would not be surprised to see it break through that level with relative ease. With every passing day, the U.S. dollar seems more and more vulnerable, geopolitical tensions continue to be of great concern, and gold demand continues to rise all across the globe. From a longer term perspective, I believe gold at these levels are at a great value, and I believe that within the next couple of years (if not sooner) we will finally see $1000 gold.

What is also important to keep in mind about this bull market in gold and commodities, is that it not only presents investors with a possibility to profit from higher prices, but it also provides investors with an opportunity to hedge their portfolios from recessionary, inflationary, and geopolitical risk. I am offering a free hedge analysis for anyone who asks. You can contact me by clicking here

Additionally, you can also subscribe to Wisdom Commodity Weekly, a free weekly newsletter that provides commentary, outlook, and market analysis on a wide variety of markets. You can do so here.

Futures and options trading involves substantial risk and is not suitable for everyone.

Emanuel Balarie
Update Sep 2007 Emanuel Balarie has started a new investment company:-

For more information on Emanuel Balarie you can visit www.commoditynewscenter.com or email him at ebalarie@commoditynewscenter.com

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