Fading gold price marks a change of JSE guard

23 April 2013 - 02:47 By David Shapiro
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Only six weeks ago, the JSE all-share index recorded a new peak of 40952. Confidence was on the rise.

In the US, householders had shrugged off tax increases and were shopping in malls; home prices were picking up and businesses were adding workers to their payrolls. In China, the government declared its commitment to growth, dispelling fears that the world economy's primary growth engine would stall. The European Central Bank's pledge to conserve the euro had reduced the interest rate spreads among German, Italian and Spanish bonds. Also, metal prices were showing signs of life, recovering from their August slump - iron ore jumped from $90 a ton to $160 on Chinese restocking.

Since then, however, our market has come down with a thud, losing more than 7%. It was dragged lower by steep falls in mining shares reacting to a series of unexpected data that raises questions over the merit of the highly rewarded and revered teams of economists and forecasters who occupy the corner offices in some of the globe's leading financial institutions.

Firstly, US growth in the first quarter turned sour, missing estimates and launching doubts about the sustainability of the much-heralded turn in the world's largest economy. Other than vehicles and petrol, retail sales declined while construction and industrial production came in lower than anticipated. But the big shock was the employment number. After averaging 200000 in January and February, new jobs created last month fell to 88000.

During the same period, we were trying to get our heads around the debt crisis in Cyprus, and whether the bankruptcy of this small Mediterranean island nation would threaten an already fragile European economy.

If that was not enough to undermine market confidence, below par Chinese expansion and a plunge in the gold price were.

But US markets have held up relatively well, trading only a few points off their all-time highs, far outperforming the JSE.

As I pointed out last week, in the first few months of this year, US markets have been 15% more profitable than our market. American investors remain remarkably sanguine about the direction of their stock markets and the resilience of their economy: there has been, among others, a revival in housing after a five-year recession, resurgence of vehicle manufacturing, energy independence and infrastructural development to exploit shale oil and gas deposits.

Admittedly, not many money managers expect a repeat of the gains recorded last year, but, with interest rates rock bottom, corporate earnings expanding and valuations attractive, equities still offer an attractive safe harbour.

Last Monday's $134 drop in the gold price caught even the grizzliest of bears by surprise. At the current price of $1400 an ounce, gold is 26% off its September 2011 summit. Gold has limited industrial use and offers no investment yield, but the metal is favoured as a store of value during catastrophic times. During the recent financial crisis, its price more than doubled as the ranks of investors fearing the consequences of the generous remedial monetary and fiscal policies adopted by the world's biggest economies grew. The more followers who joined the movement, the higher its price rose.

But warning signs that gold was heading lower began to emerge last year. Deflation in the global economy became more a concern than runaway inflation; international equity markets started to climb and the European banking system survived an onslaught of upheavals in Greece, Italy and Spain. The final straw was the metal's indifferent response to the troubles in Cyprus, the odds of further quantitative easing in the US and Japanese central banks' monumental bond purchase programmes.

Though gold shares no longer dominate the JSE's performance - as they did throughout most of the exchange's 127-year history - the indirect effects of the tumbling price are cause for anxiety. Mining companies, adjusting to lower sales prices, could be forced to reduce their labour component - a move that would bring added hardship to the economy and surely ignite further unrest. Closing shafts would impoverish flanking communities, as well as reduce trade for a number of associated manufacturing businesses.

But even more trouble is embedded in the composition of the recent Chinese growth data.

Consumption and services made a larger contribution to GDP than fixed investment. Economists suggest the new administration might have imposed measures to restrain the economy from expanding at the breakneck speed of the past - the purpose being to reduce the risk of out-of-control inflation and possible excesses in the property market. Developing the services industry would boost employment, increase wages and household spending, modernise the economy and align it to its developing world counterparts. If true, any shift in that direction would put an end to the demand for raw materials that underpinned China's economy over the past decade.

Demand from China should remain robust, but, with price gains on a lower trajectory, only the proficient will survive. For the JSE, our once mighty mining sector will give way to our services sector.

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