Gold buyers reacted enthusiastically to the Fed’s announcement revently that it would not reduce its $85 billion a month bond purchases, known as quantitative easing, or QE for short.
Assuming the Fed elects to keep QE going full speed through the end of the year, the steady stream of “stimulus” will push the central bank’s balance sheet beyond $4 trillion. Of that amount, roughly $3.6 trillion has been pumped into Wall Street since the 2008 financial crisis through the Fed’s various QE programs.
The precious metals markets love that kind of liquidity being pumped into the system, which is why gold prices reacted so favorably when the Fed announced it would not take its foot off the QE gas pedal even a little.
The waves of QE have certainly contributed to the higher gold prices over the past five years. From December 2008 to June 2011, gold prices soared by more than 70% thanks to QE1 and QE2.
Despite a decline so far this year, gold prices today are still 60% higher than in late 2008 when Ben Bernanke started quantitative easing.
And while a QE taper is bound to happen at some point, there is little chance the Fed will do it before Ben Bernanke’s term in office ends in January – and probably for a while after that.
“Asset purchases [that is, tapering] are not on a preset course,” Bernanke said. He said it depends on the state of the U.S. economy and the Fed’s interpretation of “confirming evidence.”
Fed policies aside, however, fans of the yellow metal can count on several other factors to keep gold prices rising…
Other Reasons for Higher Gold Prices
Perhaps the biggest reason for higher gold prices going forward is the fact that large discoveries of the precious metal are not keeping pace with production levels.
A recent study conducted by the Canadian research firm SNL Metals Economics Group made this all too evident.
SNL found that, since 1990, only about half of the total resources in large gold discoveries (more than 2 million ounces) had either been put into production or converted into reserves on gold companies’ books.
What this means is that new gold finds are not keeping up with global gold production.
The SNL report stated that the estimated potential future production from major gold discoveries made in the period from 1990-2012 averaged 57.3 million ounces per year.
But the average worldwide gold production during the same time frame averaged 76.3 million ounces annually.
This means the production of new gold finds and reserves only came to approximately 75% of global gold production.
That’s a basic supply-demand equation that clearly favors higher gold prices.
And if you look at a shorter, more recent time period, the gap is even wider.
Between 1998 and 2012, SNL Metals found that gold companies had discovered 107 major deposits. The new finds added more than 800 million ounces of gold to worldwide reserves and resources.
But during this period, global gold production was 1.2 billion ounces. That translates to new discoveries amounting to just 56% of gold produced.
This trend cannot be sustained over the long term, particularly in view of strong and growing demand for physical gold from emerging economies like China and India.
So it’s a good idea for investors to take advantage of relatively cheap gold prices now.
One good way to own gold is an exchange-traded vehicle that can be converted into gold bullion, such as the Sprott Physical Gold Trust (NYSEARCA:PHYS).
Related: SPDR Gold Trust (ETF) (NYSEARCA:GLD), iShares Gold Trust(ETF) (NYSEARCA:IAU), ETFS Gold Trust (NYSEARCA:SGOL).
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