EFTS Physical PM Basket 24 Aug 11

Fat Prophets take profits

Gold’s price performance has been quite remarkable in recent weeks. The yellow metal has defied expectations of a consolidation period and instead set new record highs with increasing regularity. While we remain positive with regards to the long term outlook for gold, a correction becomes inevitable whenever we see price charts steepen as gold has done. It’s really just a question of from what level prices will correct.

As shown on the chart above, the yellow metal recently surged further into blue sky territory, reaching a new all time high of $1,912.29 during trade on Monday. The recent advance appears over-extended, thus we would expect a short term retracement to follow. We would target a decline towards the 50% - 61.8% Fibonacci retracement zone of $1,794.8 - $1,817 in the near term.

Although gold could well undergo a steeper correction before it enters a new consolidation phase, there is no urgency to reduce exposure to gold stocks. Unlike the metal itself, the gold miners and explorers have not pushed to record highs. This is partly due to the general weakness in equity markets, which impacts all sectors. But also due to the market’s general disbelief, contrary to our own, that gold’s price strength is sustainable.

However, those members with exposure to the metal more directly should consider locking in some short term gains. As such, we are temporarily downgrading the ETFS Physical Precious Metals basket (ASX, ETPMPM) to a sell half.

ETPMPM is designed to offer investors a simple and secure way to access the precious metals market, by providing a a return equivalent to movements in the spot price of precious metals. There is a fee associated to this, but it is not particularly onerous at 0.44% per annum. The fee covers the operational management of the security and the storage costs relating to the physical metal that it is backed by.

The price of ETPMPM is based on the spot price of precious metals less the daily Management Fee. The provider uses only internationally recognised and transparent physical precious metals pricing benchmarks, so there are no issues with unusual pricing.

The approximate price of the ETPMPM security is based on the following breakdown of the various precious metals and their weightings within the security, comprising: 0.099oz of platinum (Pt), 0.0197oz palladium (Pd), 1.185oz silver (Ag), and 0.0396oz gold (Au). This weighting is demonstrated graphically in the following pie chart.

We reiterate that the fund is 100% backed by allocated metal, held by the custodian HSBC. The metal is held as uniquely identifiable bars which carry no bank or other types of credit risk and to which on other entity has a claim. All physical metals held with the custodian must conform to the rules for good delivery of the London Bullion Market Association (LBMA) and London Platinum Palladium Market (LPPM).

As a result, is about as close as an investor can get to actually purchasing the physical metal, but without the practical difficulties that are involved in that, such as storage and insurance. The performance of the constituent metals is shown below.

Notwithstanding the potential for short-term weakness, we certainly expect the gold bull market to remain in place for quite some time yet. This is not least because gold’s price strength is the other side of the US dollar’s weakness. In order for gold to change trend, we would first need to see US monetary policy change to a tightening trend. This clearly isn’t going to happen anytime soon. Fed Chairman Bernanke has already made it clear that his near zero interest policy will remain in effect for at least two years.

There is also an increasing expectation that Bernanke will unleash further stimulus following his Jackson Hole speech this Friday. We wouldn’t be surprised if he refrains from taking further action at this stage. But further Quantitative Easing certainly remains on the table as a policy option if deemed necessary. So there is little hope of a reduction in the supply of US dollars rectifying their declining purchasing power.

However, we recognise that ETPMPM has generated healthy returns since our previous buy recommendations and Members would be well served to remove some of those gains from the table. Indeed, after printing a low of 122.25 in July, prices surged significantly higher, reaching a new all time high of 155.71. This represents a gain of +27% within a very short time frame. As a result of the rapid increase in price, we would not be surprised to see a short term retracement, driven by similar action in the underlying metals. As such, we recommend Members sell half of ETFS Physical PM Basket.


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