HSBC forecasts gold to be up to US$1,900 / oz by the end of 2012 but its NZ$ price will depend on US dollar depreciation

The gold price opened today at US$1,725 / oz, a significant drop from the price it was at at the beginning of the month.

It has fallen 3.5% from US$1,787 / oz, a decline of US$62 in 23 days.

In NZ dollars however the retreat has been less.

It has fallen from NZ$2,158 to NZ$2,113, or down NZ$45 or 2.1%.

The price of gold has been all over the place in the past twelve months.

But two respected analysts at HSBC remain bullish and expect prices to hit US$1,900 before the end of the year.

Their expectations of monetary policy in the US have been the key drivers, offsetting somewhat sluggish global demand.

They say QEIII supports gold prices, whether or not it boosts the US economy.

For NZ investors, QEIII depreciates the US dollar, so the key calculus is whether the gold price will rise faster than the US dollar falls.

Although the first rush of QE3-inspired gold buying is over, we believe that the Fed’s openended commitment to easing until US labor markets improve will support gold well into 2013. Indeed, we expect QE3 will benefit gold, regardless of its economic impact. For those investors who expect that QE3 will fail to jump-start economic growth, gold offers an attractive quality asset, in our view. For those investors concerned about the inflationary impact of QE3, gold should have appeal as an inflation hedge.

Growing worries about the US ‘fiscal cliff’ are likely to be supportive:

Gold also stands to be positively influenced by any further shift in financial markets’ attention away from the eurozone and its problems and toward similar concerns about US government debt levels and fiscal policies. Perhaps the most important plank in our bullish analysis is the likelihood that the USD will weaken, as forecast by HSBC foreign exchange research, due in part to the currency impact of QE3 and US fiscal issues.

The quasi-stagflation state of the US economy is also helping gold prices, they argue:

The deterioration in the traditional trade-off between US economic growth and inflation is working to gold’s advantage. The US has endured almost a decade of lower-than-forecast economic growth, accompanied by surprisingly sticky inflation.

And, of course, weak growth tends to increase demand for assets such as gold, while higher-than-expected inflation also increases demand for bullion.

They also note an interesting trend in scrap gold, and how it’s affecting supply. The financial crisis saw a significant rise in scrap trading globally, which has largely been maintained.

Recycled scrap supplies have replaced official sector sales as the largest source of gold supply after mine output. Scrap market volume more than doubled from c600t in 2000 to c1,665t in 2011, but the latter was down from a record 1,719t in 2010, according to data compiled for the World Gold Council by Thomson Reuters GFMS.

Scrap supplies are sensitive to price, and gold’s steep price decline in Q2 largely explains the reduction in scrap supply then. About 60% of recycled gold has been derived from the emerging world in recent years, notably India, China, and the Middle East. Based on our discussions with fabricators and refiners, we believe that scrap supplies from the EMs have risen notably in the wake of higher prices. Indian recycling is further stimulated by a weak INR, which has pushed gold to record highs in local currency terms.

In the west, however, they argue that scrap gold sales are being driven largely by economic factors, such as unemployment and incomes, with less focus on price. Scrap sales have been falling lately in the advanced economies, in spite of the rising price. An interesting dichotomy.

Looking at jewelry, there was a fall in demand in India (partly down to the rupee’s weakness which has driven prices up in local currency terms to record levels) and steady demand in China. There is, say HSBC, a blurred line between investment and adornment in these countries:

Jewelry buyers have a strong investment motive in their purchases, which is largely absent among Western consumers. To this degree, issues such as inflationary expectations are a driver of gold jewelry demand. If inflationary expectations in emerging markets are curtailed, jewelry demand may moderate further, we believe.

Inflation pressures can be a double-edged sword for jewelry demand. While higher inflation may encourage investment-related demand, jewelry also must compete with necessary household items and staples, including food and fuel, which represent the bulk of consumer spending in the emerging world.