Weekly commentary on precious metals

Big news for the precious metals markets came from China last week when the Xinhua News Agency published comments made by Hu Xiaolian, head of the State Administration of Foreign Exchange, indicating that China's gold reserves had increased by 454 tonnes since 2003. Apparently, they were required to report the new total to the IMF and made a public disclosure at the same time, however, it is not at all clear why there were no previous updates in recent years.

This almost doubled their previous reserve total of 600 tonnes and vaulted China into sixth place on the World Gold Council's list of official gold holdings as noted in this item last week. With almost $2 trillion in foreign exchange reserves and an increasingly vocal dislike of the U.S. dollar in recent months, this big gain comes as no surprise to most analysts, however, the magnitude of the increase in dollar terms was mostly overlooked in media reports.

This addition amounts to only $13 billion - less than one percent of their foreign exchange reserves - and boosts their "percent of reserves held as gold" from 0.9 percent to just 1.6 percent. The "rule of thumb" for western central banks is a stockpile of 15 percent, about ten times China's new total, and most analysts expect thousands more tonnes to be purchased.

Prices for both gold and silver were buoyed by the news late in the week but, after two months of mostly lower prices, the metals were due for a rebound. For the week, the price of gold rose five percent to end at $913 an ounce and spot silver surged nine percent to close at $12.89 an ounce.

As a result of this move back up above the $880 level, buy indicators for both gold positions in the model portfolio - Gold Bullion and the SPDR Gold Shares ETF (GLD) - have been changed from green back to yellow.

It will be important to keep an eye on the world's most popular gold ETF since, for the first time this year, metal recently exited their vaults as shown to the right. Inventory has declined by 23.2 tonnes since April 16th after an impressive addition of almost 350 tonnes since the first of the year.
Interestingly, mainstream financial media outlets such as Reuters and Bloomberg now routinely report changes in GLD inventory in their gold reports and also compare their stockpile to official country holdings around the world, something that I've been doing for years. In fact, I remember being disappointed early last year about not being mentioned in an article in the Wall Street Journal after a reporter called to follow up on one of my articles about the GLD inventory passing China's official holdings of 600 tonnes.

It's was ironic to see these two items in the news together last week.

Buying in India has supported the gold price in recent days as the world's most price-sensitive buyers have been on strike for most of the year, only appearing when sub-$900 an ounce prices were to be had as today's important Akshaya Tritiya festival neared. This is one of the four most important days of the year for Hindus and is considered an auspicious day for buying long-term assets such as gold, a legend stating that any venture begun on Akshaya Tritiya will bring prosperity.

The recent surge in enthusiasm for the gold price, while welcome, should be tempered by the knowledge that, according to GFMS, about 500 tonnes of scrap gold entered the market during the first quarter of 2009. This is the equivalent of an entire year's worth of scrap metal and exceeds the record 469 tonnes added to gold ETFs around the world over the same period. While I'm sure that prices for precious metals will go much higher at some point, making such a move in the near term will be difficult absent another flight to safety, something that is now looking more likely than it did a few weeks ago.

[The above is excerpted from yesterday's Weekend Update at the companion investment website Iacono Research. To learn more about investing in natural resources using ETFs, stocks, and mutual funds, see this description or sign up for a free trial.]

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Full Disclosure: Long gold bullion and GLD