From the May 01, 2009 issue of Futures Magazine • Subscribe!

Can metals be strong in good times and bad?

By the end of 2008, the world of metals (both precious and base metals) experienced one of its most volatile years ever and investors and speculators are wondering what to do going forward. Fortunately, the future for metals is not that hard to see. The long-term picture looks bullish due to fundamentals and the likely monetary and political climate in 2009 and 2010. The short-term picture looks choppy and uncertain but then again, isn’t it usually that way?

Jim Rogers, the well-known commodities authority, pointed out that commodities bull markets tend to last 15 to 20 years with sharp corrections along the way. History has shown us that violent corrections of 30-45% (especially in the commodities futures market) are not that uncommon. Speculators have gotten used to and even expect these dramatic dips seeking some quick short-term profits.

Metals analyst David Morgan, editor of the Morgan Report, concurs and expects the coming years to generally mirror the bullish years of 2002-08. In spite of short-term gyrations, Morgan points out that the fundamentals win out over the long-term and the fundamentals for precious and base metals are sound and should get stronger in due course.

SHINY METALS

Gold, silver, platinum, palladium and rhodium had a mixed-to-bad year. The only shining star among them was gold, due to its historic and resilient safe-haven status. Silver, platinum and palladium had fallen sharply due in part to their industrial exposure. Among those three, silver has a more pronounced history as a monetary metal but it does share a dual identity, along with platinum and palladium, to varying degrees, as having industrial properties as well. It was the industrial side of the equation that sunk them in 2008.

“Precious little growth” gives you a snapshot of their performances. Platinum was down over 41% for the year but that is only part of the story. It hit an all-time high of $2,273 in the spring of 2008 before its gut-wrenching fall to $898 by the end of that chaotic year, a 60% plunge.

The most obscure precious metal, rhodium, experienced the most violent price plunge and, as of this writing, is still down about 90% from its all-time high.

The precious metals did rebound by early April this year as commodities markets stabilized during the first quarter. Ironically, the very things that caused plunging prices for the precious metals will give them the rocket fuel to lift them to much higher prices during late 2009 and beyond. The fundamentals are gaining strength.

Due to the credit crisis that severely battered the financial markets, many companies in the mining sector took it on the chin when financing either vanished or was greatly limited. This cash crunch, coupled with falling demand for industrial metals ultimately, meant closing or curtailing many mines. The demand drop-off was soon met with supply shrinkage.

Platinum and palladium were especially vulnerable since they are used in the auto industry and related industries. The automotive industry is cyclical but this particular cycle is the most difficult since the Great Depression. At press time, the long-time bellwether company General Motors was teetering near bankruptcy. In spite of that, Platinum and palladium are up for the first four months of the year 28% and 21% respectively. Short term, industry observers expect a flat market but see an upswing long term.

The more popular precious metals, gold and silver, have experienced strong investment demand in the physical markets (both bullion and numismatic coins and bars) since early 2008 and that demand continues for 2009. Supply has been very tight for both metals for the past 12 months and economic and political factors point to continued tightness. Across the globe, mines have closed due to the credit crisis and economic slowdown.

In addition, many governments, including Canada and the United States, have added more regulations and costs (taxes) in the mining sector, while some governments, such as Venezuela, have nationalized some mining properties. These developments ultimately will shrink supply and the availability of gold and silver will become obvious bullish factors.

The real story going forward for precious metals will be another governmental impact that is quite extraordinary and historic; money supply growth is very strong among the major nations of the world. Right now, the Federal Reserve’s “quantitative easing” (code for printing money) is adding trillions to the money supply. The Obama administration and Congress are aggressively spending money through their Keynesian “stimulus plan” in an effort to boost demand, which they hope will re-ignite the economy. No matter how it unfolds, increased inflation is in the cards and this bodes well for gold and silver.

BUILDING METALS

From the summer of 2008 to today, the economic chaos, credit crisis and recession that have deepened since December 2007 have everyone questioning the viability and direction of many aspects of our economy. Certainly commodities have been front and center in the debate. “The big picture” shows that base metals had a robust market heading into the summer of 2008. At first the price dips smacked of the usual seasonality because summer is a slow season for commodities in general and a correction usually hits. The summer of 2008 was indeed a different animal, as the credit crisis and recessionary pressures created a strong bearish impact on base metals.

Since base metals are sensitively tied to the economy, the stronger-than-usual recession caused prices to tank (see “Bargain BASEment”).

Looking at the prospects for base metals prices going forward will boil down to two primary drivers that also propelled precious metals: classic supply and demand and monetary considerations.

When economies such as the United States’ contract or when they slow down, as when China’s torrid double-digit growth slipped to single digits, that bodes ill for resources that are directly and sensitively tied to the economy such as base metals. The short-term impact is decidedly flat or bearish.

“From a demand-and-supply point of view, non-ferrous metals have been hit hard during the second half of 2008 and that has continued into the first half of 2009. Expect them to trade sideways in the short term until conditions improve long term,” says Roger Wiegand, an analyst at Trader Tracks. He expects that iron ore and steel are particularly vulnerable in the short term and expects further consolidation with the mining firms for this year. Long term, he remains cautiously bullish on base metals but strongly bullish on precious metals due to inflation’s return.

The big fall off in the United States is predominantly due to the collapse in housing and big ticket items such as autos and machinery. Construction has fallen off a cliff and the impact on building materials such as aluminum, iron and copper obviously has been very negative. Copper, for example, after topping the $4 per lb. mark in the spring of 2008, fell more than 71% to $1.25 before recovering to almost $2 a year later.

INFLATION WILD CARD

Because governments are engaged in unprecedented “stimulus” initiatives, more money will be pouring into public works projects such as infrastructure. This demand will have a bullish impact on base metals but it may not have a significant effect until the second half of 2009 at the earliest. As government money finally starts to hit and roads, bridges and other projects get rolling, the “building blocks” will benefit directly.

Longer term, as governments keep expanding their money supply, the inflationary environment will be a bullish factor for metals. There is a strong expectation among many analysts that current money supply expansion will easily see double-digit inflation in the intermediate term. Some observers claim that inflation is not a serious threat due to the recessionary environment. In recent speeches, Federal Reserve Board Chairman Ben Bernanke does not seem to be concerned with inflation as he directs his attention to bank bailouts and getting the general economy out of its depressed state.

History tells us that sufficiently determined government central banks do create higher inflation even in a difficult economic environment. Zimbabwe is a good example of hyperinflation in an impoverished society. Yugoslavia experienced it after it attempted a “stimulus plan” in 1989. This ignited hyperinflation, which was a major factor in the country’s collapse in 1994. Therefore, precious metals and other finite valuable resources are a good bet in the unfolding developments.

Fear regarding the current credit crisis along with the money being pumped into the global economy by nearly every central bank bodes well for both precious and base metals on both a short- and long-term basis.

Paul Mladjenovic is a CFP, national seminar leader and author. He wrote the book “Precious Metals Investing for Dummies” and he is the editor of the financial ezine, Prosperity Alert. His Web site is www.SuperMoneyLinks.com.

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