China Says Gold Is Undervalued – How True?

In recent times, it’s been difficult to justify the purchase of gold. Many investors have been led to believe that the precious metal is not worth more than its current price. On the contrary, however, reports from China suggest that investors should consider purchasing gold. And it’s fundamentally sound to do so.

The suggestion comes from a recent report from the World Gold Council on the Chinese gold market. First, it was found that China accounted for 26% of global private sector gold demand in 2013, explaining that Chinese consumers and investors are taking advantage of the lower prices of the metal.

In fact, inferring from the report, it is highly probable that the demand for gold in China this year is still going to be at high levels. According to a Chinese consumer survey, 60% of Chinese gold consumers expect the price of gold to increase over the next twelve months. These sentiments about gold from China echo the positive signal that can be seen looking into the fundamentals of the yellow metal.

With all the news about China’s gold market activities accompanying a rebound in gold price from 2013 levels, it’s possible, and valid, to think that the upturn in the price of gold is driven by China’s ever-increasing gold demand. Conversely, it would mean that as soon as China tapers on gold demand, the price of the precious metal would return to its 2013 levels.

Instead of looking on that direction, the appropriate question to ask is, “Why is China investing in gold?” Very simple. China is investing in gold because economic indicators suggest that gold is currently undervalued. A simple relationship between gold and the economy is that when the economy is struggling, investors would usually look for a safe haven asset to invest in so that their money can be safe. Usually, Gold is that safe haven asset.

Here are a few things to note.

First, the unemployment data indicates that economic growth is very slow. As of the end of March, the unemployment rate in the US was 6.7%. Note that before the crisis began in 2008, unemployment rate was in the region of 5.8%. So it means that more people are unemployed now than before the financial crisis.

Let me break this down in simple terms. Generally, the rate at which an economy improves would have a direct bearing on the rate at which unemployment rate improves.  In reality, if an economy were improving, then there would be a need for extra workforce. In other words, that the improvement of unemployment is slow implies that economic growth is slow.  

More so, even those that have been lucky to keep their jobs have had to deal with some sort of pay cut. According to the monthly median household income data report from Sentier Research, for February 2014, Nominal median household income was up $668 and $1,787 month-over-month and year-over-year respectively. However, the take away here is that, while there has been an improvement, the annual household income is still 6.8% – about $3,892 – lower than its interim high in January 2008.

And all of these are even made manifest in the country’s sluggish GDP growth. For the fourth quarter 2013, GDP growth had to be cut down to 2.4% from 3.2%, with the government stating that consumers didn’t spend as much.

All of these echo the fact that the economy’s growth is slow. And as long as economic growth is slow, the risk of volatility of paper money-based assets becomes bigger. This infers that there is a solid case for an investment in gold – or precious metals at large. At times like this, precious metals offer a great way to protect your wealth against volatility.

Final note

Usually, when there is a case for an investment in precious metals, there is almost an equivalent case for investing their producers. After all, they’re the ones that make the metals available. However, considering the state of the economy, it’s highly recommendable to look out for miners that are effective at bringing down operating costs. This singular factor often set some companies ahead amidst economic uncertainties. It means they are able to adjust their business to suit the demands of the economy.

As far as being cost efficient goes, Alamos Gold AGI, and Hecla Mining HL are two of the industry’s most cost efficient miners, and investors might want to consider them, . They both have a track record of putting out low operating expenses. In fact, Alamos Gold in particular has no debt in its books. With the purchase of Aurizon, Hecla is now a gold producer as well. And its impressive track record of putting out low operating figures means that it will be able to be profitable at gold production.