No Gold For The Banks

Sun Herald

Sunday April 13, 2008

David Potts

Commodity prices run riot at the expense of financial stocks.

THE other day I found a note to myself to get back to you when the gold price hit $US1000 ($A1074) an ounce but what with one thing and another - you know how it is - I forgot to read it. So, wouldn't you know, the $US1000 mark has been and gone. In fact, it's gone down to where it was when I wrote the note. Must hang onto it for next time.

As for oil prices, they've already whizzed past $US100 ($107) an barrel - $US110 ($118), even - which is quite something considering the biggest consumer, the US, is in or about to enter a recession.

But can you spot the difference between what's behind gold and oil prices? There isn't any. Both are being pushed up by the weakening US dollar, supply shortages and demand from China and India.

Why gold has slipped back a bit seems to be just one of those things. It has more to do with currency shenanigans than any change in fundamental demand (which is growing) or supply (which is shrinking, if you take out of the picture what the central banks hold and won't be selling).

As a matter of fact, if you take into account inflation, which gold is supposed to be a hedge against, Westpac economist Justin Smirk has calculated its price should be $US1400 ($1500) an ounce. Come to that, he argues gold's uninspiring performance for 30 years proves it's not an inflationary hedge at all. Maybe you have to be 120 before the benefits kick in.

Anyway, a supply squeeze is behind the upward run in commodity prices, while the US dollar - or perhaps more accurately the credit crisis behind it, aided and abetted by hedge funds - brings about the volatility.

The soft US dollar is why it's unlikely resource stocks are about to pass the baton onto banking stocks as the next market must-have. Mind you, resource stocks are yet to have their comeuppance from the credit crisis and have even had the nerve to set new highs in a falling market.

On the other hand the prices of bank stocks have been savaged. So it would make sense if resource stocks were to run out of puff soon and make way for bank stocks - which have supposedly been written down too far to pick themselves off the floor.

Don't be so sure. Commodity prices keep shooting up because of the supply squeeze and the soft US dollar caused by the US banking gridlock. If anything, the credit crisis helps them, unless it morphs into a global depression. Meanwhile, the banks are in no condition to be taking over from anything. They have been marked down because the lending boom is over.

This hasn't stopped the banks telling analysts they might need more capital because of the unrelenting demand for loans from big corporations. They argue they have to get the money from somewhere and, since the credit markets have seized up, it might have to be a capital raising.

Oh, sure. The evidence is the banks aren't having much trouble borrowing offshore at all, considering the Commonwealth and the ANZ have raised more than $1 billion each in Japan in the past month and the dollar has been rising. They just don't like having to pay more.

But as they expand their loan books it's true they'll need more capital to comply with prudential regulations. That means either a rights or preference share issue or a cut in dividends, none of which would be good for a bank's share price. That's the bad news.

The worse news is that the slowing economy will at some point hurt the banks' lending. They might not even need more capital in that case but their profits will be dropping. Either way, the outlook for bank stocks has to be grimmer than for resources.

Nicole Pedersen-McKinnon's column does not appear due to illness.

© 2008 Sun Herald

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