Kazakhstan Part II
August 3, 2012
Mongolia Road Trip Part I
August 22, 2012

Gold Bottom??

Has it bottomed? Is this it? Of course, I’m talking about gold. I don’t know if the bottom is in, but I think we’re getting close. How do I know? I don’t. However, I am a huge believer in sentiment. Sentiment is just absolutely awful.

Courtesy of Lance Lewis at www.dailymarketsummary.com

Essentially, a collection of newsletters that are marketed to gold investors are suggesting that their readers should have a 14.8% net short allocation to the metal. Think about that for a second. Readers of these newsletters pay to learn about gold. They tend to be rabid goldbugs. They’re being told to get short. Seriously? What ever happened to “they can pry this gold from my cold dead fingers—only after I’ve run out of bullets and they’ve raided my bunker?” Look at the red at the top; this is one of the most negative readings in the past decade. It is also one of the most consistent periods of negative sentiment in the past decade.

Courtesy of Lance Lewis at www.dailymarketsummary.com

The chart above tracks Comex open interest in gold. While this indicator has become slightly less valuable with the advent of ETFs, it is still a good indicator of investor interest in gold. We are now at the lowest level of open interest since mid-2009, right before gold made a stunningly large and almost uninterrupted two year move. The last time that open interest declined almost non-stop for a year was from the highs in early 2008 to lows late in that year. The decline in open interest was also a harbinger of lower prices, just like we’ve witnessed in the past year. If open interest does turn to the upside, it will probably coincide with a similar increase in prices.

Finally, there are the macros. The cost of producing gold isn’t going down—it’s going up, and rapidly. All one has to do is read some of the Q2 earnings releases. All I see are higher expenses, reduced production and a lot of complaining by the miners. Mining is a tough business. As the cost of mining goes up, so does the replacement value of the world’s existing gold.

In one of my first posts, Victory For Gold.  I spoke about how I actually think about the price of gold. After the past two years, these numbers need to be updated again. This is how I see it now. Remember, this does not apply to all mines, but it’s a good way to conceptually think about the mining industry and the cost of adding new production or even just replacing depletion.These costs are up because of inflation, rapidly increasing mining costs, lower head grades, more difficult permitting and much more agressive government interference. Remember that as the prices of copper and silver drop, the cash costs increase as you no longer get as much of a byproduct credit either. Finally, these numbers are before taxes and royalties.

Gold Cost Per Ounce
Cost Component Low Estimate High Estimate
Finding Gold $100 $200
Engineering, Permitting and Community Relations $50 $150
Mine Building $150 $250
Sustaining Capital $40 $100
General SG&A $50 $70
Total $390 $770
Cash Cost $500 $750
All In Cost $890 $1,520

It isn’t getting cheaper to produce gold, investors have reduced their exposure and the central banks of the world are teaming up for an epic money printing event. That doesn’t mean that gold has to go up any time soon, but it sure sets up for a good spot to add and I’ve added a bit more.


On a final note, I’d like to thank Lance Lewis from www.dailymarketsummary.com for those great charts.

Categories: Current Investments
Positions Mentioned: none

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