Lear Capital: China - The Game Changer For Gold

In February of 2001 gold prices dipped below $260 an ounce amid proclamations that it was a dead investment. Because it produced no income, we were taught it should be neglected in favor of stocks, bonds, real estate and pretty much everything else.

For a couple years, gold traded sideways as stocks rebounded and real estate began to rise in value. By 2004 an economic recovery appeared to be in full swing as the stock market began a trek to record highs. At it's lowest level in 2004, gold traded near $400 an ounce and then the game changed.

In 2004, China made a historical move and legalized gold ownership for its citizens. Since touching a low near $400 an ounce in 2004, the gold price has never looked back. Even while stocks marched to record highs, Gold prices moved in lock step. It seemed unusual and largely ignored as stock and real estate became investor favorites.

The whole country was awash with liquidity. Money was cheap and flowing like the Niagara into the economy. No one really paid any attention to gold. No one here anyway. But, gold demand was coming from somewhere. Why else would the price be rising so dramatically past $500, $600, $700 an ounce? At each milestone, reports intensified - "The Gold Rush is Over."

We still hear that today and someday the experts will be right. But for now, China sure makes it look like the gold rush has only just begun. In 1Q of 2011 investor demand in China soared to 90.9 metric tons of gold. For the first time ever, China began to outpace India as the world's largest consumer of investment gold.

Then in April 2011, China reportedly matched its entire 1Q consumption by purchasing another 100 metric tons. Gold demand was skyrocketing, driving the price near $1600 an ounce. All the while, experts here joined in the same chorus, again, "the gold rally is over." They pointed to a few tonnes sold by George Soros as a sign - "get out before the roof collapses," was the cry.

At the same time in April, that gold prices were threatening to breach $1600 an ounce, a report broke that China may be dumping two-thirds of its dollar holdings - some $2 trillion worth. By now, it all ads up. Gold hit record highs in April while China was offing dollars for gold. While 100 tonnes is far from $2 trillion worth, it seems the process is underway and may have been now since 2004.

At present only 1.8% of China's currency reserves are in gold. The average for a country is 11% which means China would have to add 6000 tonnes of gold to its reserve just to catch up. That amount exceeds two full years of mine production. Even if China accomplishes this over 5 years, that could well mean, one half of all annual gold production would be bought by just China. Catching up in just five years also assumes demand from other countries or central banks will remain static. Not so fast!

In April, 2011, Reuters reported that in 2010 Central Banks of the world, turned into net buyers of gold for the first time in more than 10 years. Now do the math. If China wants to play catch-up over the next 5 years, they have to buy more than half of the world's annual gold production every year, and then do it while all central banks are making a bid to control the world's gold supply.

The evidence is clear, those who print our money are turning around and buying gold. Since 2004, gold prices have nearly quadrupled. Now, we're entering an era of currency distrust by the very same whose job it is to maintain currency integrity. This is the game changer and why some experts now call for gold above $5,000 an ounce. LearCapital.com

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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