Good news for gold

If you ever have the chance to camp near an old gold or silver mine, take it. I did it years ago. Not only is it a great experience, but it also made me a better investor in metals.

Why? Well, there’s nothing like seeing long-abandoned mines with your own eyes. You realize, in a visceral way, that someone made a rough estimate about supply and demand decades ago, and they got it wrong.

That has also been the case in recent years, with gold prices well below 2011.

But that is about to change…

My camping trip was somewhat impromptu. I was in Reno for a conference. A friend of mine had a topographic map of some ancient mines in the high desert of the Santa Rosa Mountains, about four hours north.

We drove, camped in the middle of sagebrush, and the next morning hiked up a steep slope to a small plateau. That’s where we find the entrance to the mine (closed with dynamite), an old wooden cabin and other demolished remains of the operation.

We also found the mine’s “power plant”: the rusted skeleton of a Model T, sitting on blocks. Instead of wheels, it had large conveyor belt shafts bolted to its shafts!

There is a great distance, in terms of time and technology, from that old mine to the massive industrial gold-leaching mines that dot northern Nevada today.

But decades-long cycles of supply and demand, boom and bust, remain. And while few outside the industry talk about it yet, the seeds for the next boom are already in the air.

The reason has to do with global production.

Golden peak?

According to industry experts, leading investment bankers and others, 2015 will be the peak year for global gold production.

If you believe the common sense idea that too much supply equals lower prices, then that’s the bad news.

The good news? Those same sources say that production is heading much lower in 2016 and beyond.

Nevada’s gold mining statistics tell a small part of the story.

Last month, the state’s minerals division totaled its gold production statistics for 2014 – it fell to 4.9 million ounces, the lowest level in 27 years.

But here’s the bigger trend: Nevada’s total production actually peaked in 1998 at nearly 9 million ounces. Since then, gold production has declined in 12 of the last 17 years.

What’s happening? In short, the areas with the highest grade minerals have been systematically excavated. And because Nevada contributes the majority of US gold production, US production data tells a similar story.

The statistics for Australia and South Africa are very similar. Gold production in South Africa peaked in 1970. Australia peaked in 1997.

For a long time, the production of China and Russia filled the void.

But with gold prices falling, more mines closing, and gold mining companies wisely avoiding new projects, the “production cliff” (as some analysts call it) is finally around the corner …

• Goldman Sachs, in a March report, sees that there are only “20 years of known exploitable gold reserves” left in the world. The bank has noticed fewer and fewer discoveries of new gold deposits since 1995.

• Earlier this month, National Bank of Canada analysts told The Financial Post: “It’s not about whether or even when the production crash will happen. It’s really a question of how companies respond.” According to the bank, world gold production will fall sharply in the coming years.

• Also, a Grant Thornton analyst told AustraliaMining.com that “2015 will be the peak in global gold production.”

A hidden gold cushion

So if that’s all the case, you say, why haven’t we seen higher prices yet?

One big reason is the influence of “scrap gold” on the world market. All of those cast earrings, bracelets and dental fillings are a major source of supply, up 36% in 2011 and 2012.

But that fountain is also constantly drying up. In 2014, only 28% of the world’s gold supply came from recycled sources. The World Gold Council noted that the supply of recycled gold reached its lowest level since 2007.

Those trends continue in 2015. The group says that the supply of recycled gold fell 3% and another 8% in the first two quarters of the year (on a year-on-year basis).

Supply crisis will lead to higher prices

Here’s a final point: it takes time for new information to leak into any market. The rise and fall of gold prices? That’s old news for now, totally discounted in the price of the metal and its miners.

But what is it that most people still don’t realize (and would hardly believe if you told them)? The gold “production cliff” fits the bill. As new data confirms the forecast, expect this to be a major new catalyst for gold prices in the coming quarters.