Forget talk of a bubble, gold is going to soar again

There will always be periods of reflection and one is needed now, but the metal tends to rise strongly once a new crisis, such as the Lehman bankruptcy, strikes.

The biggest long-term threats to the gold price are rising interest rates, with recent fluctuations also affecting the metal's value. Stefen Chow / Bloomberg News

As the dramatic events in Athens unfold, investors continue to look for havens: investments that need not perform heroically in the midst of so much uncertainty but are expected to at least conserve wealth.

In the past, this has meant government bonds, currencies such as the US dollar and Swiss franc and, perhaps most notably of all, gold. However, the recent substantial gyrations in the metal's value threaten to damage one of gold's most important credentials.

The biggest long-term threats to the gold price are rising interest rates (demonstrating that governments and monetary authorities believe that they have avoided recession) and parabolic price action (a stratospheric and rapid rise in the price followed by a catastrophic slump). To that can be added a third caveat: excessive price volatility, meaning that investors might no longer view gold as a safe investment, thus undermining one of the most potent arguments for owning the metal.

In August, gold made its first move above US$1,900. Its rapid rise to that level was followed by a somewhat quicker decline of $200. On September 6, the metal once more scaled the peaks and posted an all-time nominal high above $1,920.

However, once more a lack of fresh buying, and fears that gold might indeed constitute a bubble, saw a similar wave of liquidation but this time the fall was twice as large with gold trading as low as $1,530 just three weeks later and a $200 fall being recorded in the last two days of that slump.

So is gold indeed a bubble and are we witnessing the last vestiges of the rally?

Certainly, the Asian public does not seem to think so. At lower levels, demand, and particularly from India, was extremely strong, and while some of the more recent buyers of gold might have exited the market it looks as though stronger hands now own the metal.

However, it has to be noted that this is not fresh demand for gold that has been tapped, but it is more likely to have cannibalised future flows: such that purchases that might otherwise have been left to November were completed in September to take advantage of the lower prices. This does mean that if gold were to fall sharply again the bargain hunters that were so evident on this occasion may well have had their needs met already.

For many people though, it will seem irrational that the value of any investment that is thought of as a haven could fall as politicians continue to debate the outcome for Greece - and by implication Portugal, Italy and Spain.

The situation made even more unstable in that the problems are economic in nature but all the solutions are heavily invested with political significance.

Investors reason, naturally enough, that if the outlook is so uncertain, then why should gold drop along with shares, bonds, the euro, etc? Unfortunately, the markets rarely tend to act with logic in the face of negative headlines and the knee-jerk reaction is generally to sell everything except for the US dollar.

After a period of reflection, though, gold does tend to benefit and rise strongly once more as it did in the aftermath of the Bear Stearns and Lehman bankruptcies and the concerns raised over the size of the sovereign debt crisis.

Normally, the end of September is a time to reflect on European central banks' attitudes to gold and what their selling plans are likely to be.

After all, on September 26, 1999, 15 of these institutions were forced to issue a statement clarifying their intentions and timetabling their gold sales - such was the negative sentiment surrounding gold which had slumped to 19-year lows.

The first five-year agreement allowed for 2,000 tonnes of sales; the next five years saw 2,500 tonnes as the maximum quota. In the last year, which finished on Sunday, the signatories to the latest accord could have sold 400 tonnes but instead managed less than one tonne. The IMF did "borrow" some of the allocation, but the total from them was just 52 tonnes.

Clearly, the notion of selling gold is a dead issue at the European central banks.

Conversely, there has been much media speculation that countries with gold will be forced to sell their holdings and so reduce the potential costs of any bailout. In my opinion, this is extremely unlikely to ever occur for a number of reasons, not least that such asset sales are forbidden under the EU's Maastricht treaty as a way of reducing debt.

Unfortunately, there is a wide body of opinion that sees governments as willing to do anything to avert the current crisis, whether or not any rules are broken.

So a perhaps more compelling argument is that while the gold holdings for some countries are relatively large in comparison to the gold market - the Banca d'Italia's are equivalent to one year's global annual production - they pale into insignificance when compared with the size of the debt that each of these countries have.

Consequently, any state sales would have the efficacy of trying to bale out a sinking ship using a teaspoon while saddled with the additional disadvantage of being extremely unpopular domestically.

I have previously asserted that there are few alternatives to gold as a safe investment, and I still believe that to be the case.

However, a period of quiet reflection and consolidation would be extremely helpful before gold goes on to make fresh all-time highs.

Jonathan Spall is the director of commodities distribution at Barclays Capital and is the author of How to Profit in Gold. He is based in London