Indicators suggest gold poised for big breakout by end Q3

August 4th, 2009

By Donald Doyle

The slow trading months of summer are usually a time when gold prices decline, but economic analysts at Blanchard and Company, America's largest precious metals investment firm, say that indicators this year have them believing the metal is poised for a big breakout by the end of the third quarter.

Specifically, inflation, possible hyper-inflation, dollar weakness, and supply/demand and investor demand fundamentals are all positive for the price of gold toward the end of the summer, says Donald W. Doyle, Chairman and CEO of Blanchard and Company.

While gold remains range bound, it does so at levels above $900 per ounce, which Doyle says he sees as a springboard to greater price gains, and even new record highs, through the remainder of the year - and beyond.

"Gold is performing strongly at the same time the stock market is making a mild rally and as the dollar continues to stay at a level that we consider to be inordinately high," Doyle says. "Typically, gold would be declining - but that's not happening, and there are solid reasons why."

Doyle says demand is central to gold's current sustained high price levels, with Chinese and Russian central banks adding to their holdings and investor demand continuing at record levels.

"The fundamentals for gold, and particularly investment demand, are very strong," Doyle says. "Sales of gold by the U.S. Mint, which have always been a good proxy for U.S. investment demand, are approaching those of all of 2008 - a banner year for gold - and it's only the beginning of August."

Through July of 2009, the U.S. Mint has sold 756,500 ounces of gold as compared to 247,500 ounces through July 2008 - an increase of more than 300 percent for the same time period. The Mint sold 860,500 ounces of gold during all of 2008.

The other catalyst for gold's future price rise, Doyle says, is the likelihood of inflation and dollar weakness, both of which are very real considering the record amounts of liquidity and stimulus that are making their way into the global economy.

"For some time now, we have been in the middle of a disinflationary recession, hardly a propitious time for gold to boom," Doyle says. "However, despite the short-term outlook for inflation, the longer-term picture looks to be just the opposite, particularly in the wake of record government deficits and extraordinary easing in monetary policy."

Doyle also says the case for gold now is being made by people who, in the past, recommended only stocks. In Merrill Lynch's "Metals Strategist," Merrill predicts that the unintended consequence of the bailouts will be a return of inflationary pressures to the commodity markets. If the Fed fails to keep foreign capital interested in financing its twin deficits, the U.S. dollar could spiral downward, providing strong support to commodity prices. The weaker dollar will then help gold break through to new record price levels of $1200-$1500 per ounce.

"Morgan Stanley's analysts are divided on which threat is worse for the global economy, deflation or inflation, but say that gold is a safe bet in either outcome," Doyle noted. "Morgan Stanley looked at the possibility of hyperinflation hitting the U.S., and their conclusion is an interesting one."

"With policymakers around the world throwing massive conventional and unconventional monetary and fiscal stimuli at their economies, we think that it is worth exploring the black swan event of very high inflation or even hyperinflation. While such an outcome is clearly not our main case, the risk of hyperinflation cannot be dismissed very easily any longer, in our view." -Morgan Stanley research note, via Financial Times

Doyle added that gold is renowned as a hedge against inflation - as inflation goes up, the price of gold goes up along with it. The five highest years of inflation in the U.S. from the end of World War II were 1946, 1974, 1975, 1979, and 1980. During those five years, the average real return on stocks, as measured by the Dow, was minus 12.33 percent, while the average real return on gold was 130.4 percent.

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