Gold and Commodities Set to Soar in 2019

January 11, 2019

By Frank Holmes
CEO and Chief Investment Officer
U.S. Global Investors

Summary:

  • An update to the Periodic Table of Commodity Returns.
  • Goldman Sachs issues an overweight recommendation for gold and commodities.
  • Paradigm Capital says royalty companies are the “best bet” in metals and mining.

Our ever-popular Periodic Table of Commodity Returns has been updated for 2018 and is now available on the U.S. Global Investors website! I invite you to get lost using the interactive feature, which easily allows you to highlight a certain commodity, the top performer, the most volatile and more.

Explore the new periodic table of commodity returns 2018

Palladium was the best performing commodity for the second year in a row, returning 18.59 percent in 2018 after ending the previous year up a phenomenal 56.25 percent. As we’ve noted before in the Investor Alert and elsewhere, palladium and gold prices are now near parity, with a razor-thin spread of only around $2 separating the two at the moment. Late last year, the white metal actually overtook the yellow metal for the first time since 2001 on increased demand from automobile manufacturers. More than 80 percent of world supply is used in the production of catalytic converters.

Not to be outdone, gold ended 2018 on a high note, beating global equities and commodities for the fourth quarter. And as I mentioned last week, it was the sixth most liquid asset class, with daily trading volumes nearly identical to that of S&P 500 companies.

Goldman Bullish on Gold, Forecasts $1,425

With a majority of investors now betting that the current rate hike cycle has peaked, the U.S. dollar looks to be in retreat, having lost about 1.7 percent over the past month. Mike McGlone, commodity strategist at Bloomberg Intelligence, writes that he believes the “2019 dollar downtrend has legs.” This is constructive for metals and commodities in general, gold specifically. Today, in fact, the yellow metal achieved a “golden cross,” whereby the 50-day moving average crosses above the 200-day moving average—a very bullish sign.

Gold Achieves a Golden Cross
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Among those that are most bullish on the precious metal is Goldman Sachs. In a report this week, the investment bank maintained its overweight recommendation and raised its 12-month price forecast up from $1,350 an ounce to $1,425, a level last seen in August 2013. Goldman analysts contend that the gold price “will be supported primarily by growing demand for defensive assets, with a slower pace of Fed rate hikes in 2019 boosting demand only marginally.”

The World Gold Council (WGC) made a similar case in its 2019 outlook this week, predicting that global investors will “continue to favor gold as an effective diversifier and hedge against systemic risk.” The rise in protectionist policies around the world is chief among the risks since they tend to lead to higher inflation and slower economic growth over the long term, according to the WGC.

I believe the current government shutdown, over funding for a wall along the southern border, is evidence of the risks protectionist policies pose. Soon to be the longest in U.S. history, the shutdown could start to take a toll on the economy the longer it lasts, according to Federal Reserve Chair Jerome Powell, and perhaps even cost the U.S. its triple-A credit rating.

Commodities Could Also Be a Buy Right Now

Goldman Sachs isn’t just bullish on gold. Commodities also look like a strong buy, the bank’s analysts say, after prices were slashed late last year. Before the fourth quarter, commodities were following the “late-cycle playbook.” Up 16 percent, they were the best performing asset class of 2018. But with the Fed now “on hold” and there being “low risk” of a recession, Goldman says it can now argue “with confidence” that the sell-off last year was a “mid-cycle pause.”

This is actually good news for commodities, as mid-cycle pauses have historically been a buying opportunity. Look at the chart below. It shows that, with few exceptions, commodity prices rallied in the days and weeks following a “pause” signal from the Federal Open Market Committee (FOMC). And as you might already know, Powell recently commented that the Fed “can afford to be patient” and “flexible” when it comes to additional rate hikes.

Mid-Cycle Pauses Have Historically Been a Buy Signal for Commodities
click to enlarge

Goldman maintains an overweight recommendation for commodities, with a 12-month forecast of 9.5 percent.

Gold Royalty Companies Are the “Best Bet,” Says Paradigm Capital

It’s no secret that I’m a fan of royalty and streaming companies. (You can read my posts featuring Franco-Nevada and Wheaton Precious Metals.) I’ve long admired these companies for generating profits and creating value, even when the metals market is flat or weak.

This week, Paradigm Capital reaffirmed my conviction in the royalty model. The Canadian investment dealer shared its research into the long-term performance of the various tiers in gold mining, from juniors to seniors, from explorers to developers. The royalty companies—which include not just Franco and Wheaton but also Royal Gold, Sandstorm and Osisko Royalties—are the “best bet” when seeking to “make money in gold equities,” according to Paradigm’s senior analyst, Don MacLean. He adds: “Royalty companies have the best business model in the sector, by far.”

Below, you can see that royalty companies have outperformed all other tiers, including gold itself. They collectively delivered 16 percent in compound annual growth from 2004 to 2018. Put another way, they returned a massive 884 percent in cumulative change, compared to gold at 300 percent.

Gold Royalty Companies Have Outperformed All Other Tiers Since 2004
click to enlarge

Many junior and senior producers have struggled over the same time period, but Paradigm writes that gold equities are like “coiled springs” and should outperform the precious metal if a “meaningful” gold rally of 10 percent or more occurs. Right now large-cap seniors are leading the rally, having increased 24 percent over the past three months, followed by intermediates (up 18 percent) and royalty companies (up 15 percent). This is in line with past gold equity rallies, Paradigm says, as the largest producers have historically performed best at the start.

My focus lately has been on how the idea of “peak gold” might drive the need for mergers and acquisitions (M&As) within the metals and mining industry. It’s been almost a decade since the last round of deals, and because there’s a sore lack of big discoveries right now to replenish reserves, I feel as if we’re due for more M&A activity this year. The Barrick Gold-Randgold merger, announced last September, might have been just the start of a new wave of consolidation.

In case you missed it, our very own Ralph Aldis, precious metals expert and portfolio manager, shared his top stock pick for 2019 with MoneyShow. To find out which one it is, click here!

Guess the small- and mid-cap company ticker symbols take the quiz

Gold Market

This week spot gold closed at $1,287.76 up $2.61 per ounce, or 0.20 percent. Gold stocks, as measured by the NYSE Arca Gold Miners Index, ended the week lower by 1.12 percent. The S&P/TSX Venture Index came in up 2.44 percent. The U.S. Trade-Weighted Dollar fell 0.53 percent.

Date Event Survey Actual Prior
Jan-10 Initial Jobless Claims 226k 246k 233k
Jan-11 CPI YoY 1.9% 1.9% 2.2%
Jan-14-18 New Homes Sales 567k 544k
Jan-14-18 Durable Goods Orders 0.8%
Jan-15 PPI Final Demand YoY 2.5% 2.5%
Jan-16 Germany CPI YoY 1.7% 1.7%
Jan-17 Eurozone CPI Core YoY 1.0% 1.0%
Jan-17 Housing Starts 1253k 1256k
Jan-17 Initial Jobless Claims 223k 216k

Strengths

  • The best performing metal this week was palladium, up 1.71 percent, and now the most expensive precious metal. Gold, meanwhile, is set for its fourth weekly gain, marking its longest rally since October. Traders surveyed by Bloomberg are bullish on the yellow metal for a ninth straight week. In December, China added to its gold reserves for the first time since October 2016, according to the People’s Bank of China. Reserves now total 59.56 million ounces, or $76.331 billion. China – the world’s top producer of gold – adding to its reserves is a bullish sign for the precious metal.

China Added to Gold Reserves For The First Time Since October 2016
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  • ETFs backed by gold saw 10 straight days of inflows, adding 37,174 troy ounces on Thursday alone. This year’s net purchases so far are 762,975 troy ounces, according to data compiled by Bloomberg. The price of gold finished 110 rupees higher on Wednesday due to increased wedding season buying by jewelers to meet seasonal demand.
  • Ascot Resources announced this week that it will be acquiring IDM Mining to create a gold development and exploration company. The merger will consolidate Ascot’s Premiere Gold project and IDM’s Red Mountain project in northwestern British Colombia’s Golden Triangle. Tanzanian President John Magufuli directed its central bank to buy some of the nation’s gold produced for its reserves saying that “we should get to a point where we are reserving our gold, because gold is similar to money.”

Weaknesses

  • The worst performing metal this week was silver, down 0.64 percent on no particular news but it is noteworthy that ETFs that invest physical silver, unlike gold, have seen their holdings drop.  According to Bloomberg data, investments in ETFs that focus on commodities fell by 66 percent this week. However, gold ETFs still saw positive inflows, with the iShares Gold Trust seeing a big inflow of $175 million. Gold imports in India have dropped 23 percent in December, with imports totaling 762 tons in 2018, versus 951 tons the year prior. High domestic prices for gold have deterred buyers in the world’s second largest consuming country, as the falling rupee makes it more expensive to purchase the yellow metal.
  • BullionVault’s gold index, measuring the number of buyers against sellers, fell to 51.8 in December, the lowest reading since August 2017, reports Bloomberg. However, any reading above 50 indicates that there are more buyers than sellers in the market. The Perth Mint reported that gold coin and minted bar sales dropped to a six-month low in December to just 29,186 ounces sold. Annual gold sales were still up 9 percent year-over-year.
  • The core consumer price index, measuring inflation, rose 2.2 percent from a year earlier for a second month and increased 0.2 percent from November, reports Bloomberg. Fed Vice Chairman Richard Clarida said in a speech this week that “inflation has surprised to the downside recently” and that it is unclear if inflation has moved back to the central bank’s target. U.S. Mint data showed this week that U.S. gold coin sales were down in December to the lowest level in three years.

Opportunities

  • BlackRock Inc. portfolio manager Russ Koesterich is bullish on gold and said in an interview this week that “we’re constructive on gold”, as the group has been raising bullion holdings since the third quarter of last year through ETFs. He continued to say that “we think it’s going to be a valuable portfolio hedge” and “what we see value in right now is gold’s value as a diversifier.”
  • Goldman Sachs continues to be bullish on commodities in 2019 even as oil prices fell in the fourth quarter and led to a selloff. Bloomberg reports that the bank has also raised its 12-month price forecast for gold to $1,425 an ounce, up from $1,350. Analysts including Jeff Currie wrote in a note this week that “a mid-cycle pause is a buy signal for commodities.”
  • Palladium finished 2018 strong and UBS analysts continue to be bullish on the most expensive precious metal. Palladium forwards eased more than 700 basis points since Monday, which might provide a buying opportunity, however both Jaguar and Ford announced layoffs this week indicating some weakness in the sector. UBS writes that palladium is in a multi-year deficit with demand growing and supply remaining contained. Joni Teves says that “the long-trend upward journey is intact” for palladium prices.

Threats

  • Bloomberg writes that bond demand is falling drastically. The bid-to-cover ratio is at its lowest point since 2009 and that of the $2.4 trillion of notes and bonds the Treasury issued last year, investors submitted bids for just 2.6 times that amount, according to Bloomberg data. Torsten Slok, chief international economist at Deutsche Bank, writes that “all fiscal crises begin with a declining bid-to-cover ratio.”
  • Due to the ongoing trade war with China and U.S. government shutdown, economists surveyed by Bloomberg put the risk of a U.S. recession at the highest in more than six years. The survey this week showed a median 25 percent chance of a slump in the next 12 months, which is up from 20 percent in last month’s survey.
  • President of the Federal Reserve Bank of St. Louis, James Bullard, said he is concerned that more interest rate increases could push the economy into a recession, writes Bloomberg’s Brendan Murray. Bullard said in an interview with the Wall Street Journal that the Fed is “bordering on going too far and possibly tipping the economy into recession.

How Government Policies Affect Gold's Fear Trade download the special report

Please note: The articles listed above contain historical material. The data provided was current at the time of publication. For current information regarding any of the funds mentioned in these presentations, please visit the appropriate fund performance page.