View from City Road: Beware the glitter

Now that gold prices have started to rise from seven-year lows and high-profile investors such as George Soros and Sir James Goldsmith are backing the precious metal, the gold bugs have begun to hope that their day has come. They should beware. Many investors struck it lucky when gold hit dollars 800 in the early 1980s, but many subsequently lost their shirts.

The supply and demand balance certainly looks favourable for the bull case. Gold jewellery demand has grown steadily at around 10 per cent a year in the 1980s and 1990s, even in recession. While consumers in the leading economies have cut purchases, the Far East and Middle East have remained good buyers. Mine production, which rose sharply last decade in response to high prices, has been reduced. World gold production is now about 2,000 tons a year, while nearly 2,700 tons a year is needed by the world's jewellery makers.

Add to this imbalance the effect of speculation, and the price can take off like a rocket. Some of the conditions of the Seventies spike are in place. For example, interest rates are already low in the Anglo-Saxon economies, and are now falling on the Continent. This makes yieldless gold relatively more attractive. Professionals and highly leveraged investment funds are starting to get in on the move. Gold producers, who have sold into every rally over the past few years, are unusually holding back.

But the man in the street, thank heavens, is not yet involved. This is an exceptionally volatile market, and the rise to nine-month highs of dollars 354.75, up dollars 3.25, is not so far from the seven-year low only weeks ago of dollars 326. Part of the reason for the switchback ride is that just small changes in stocks of gold can swamp regular supply and demand. In recent years, the shortfall of mined supply has been met by central bank sales, notably from the former Soviet Union, Iraq, Canada, Belgium and the Netherlands. This threat still exists: the International Monetary Fund says that as of January 1993, there were nearly 29,000 tons of gold held by all countries, with another 6,300 held by official bodies. This market is strictly for the brave.