egolinews.com

By Andrew Nelson

If you've switched on a TV or picked up a paper lately, you'd know that the eurozone's public finances are under a lot of scrutiny these days. While it may not be wise to lump in the good countries with the bad, it would be prudent to know who the mischief makers are, as these countries are staring down the barrel of a sharp rise in sovereign risk if they don't get their ducks in a row, and soon.

This is especially the case in countries that have traditionally demonstrated poor budget management, like Greece and Portugal, and to a lesser degree, Italy. However, economies such as Spain and Ireland, which have gone though some severe cyclical corrections on the tail end of housing bubbles, are also looking at trouble on the horizon.

Economists from Credit Agricole point out that in Ireland and Spain, the deterioration of government finances and the build-up of public debt are fairly recent phenomena. In fact, as late as 2007 the budget situation in both of these countries was fairly healthy, with an average GDP surplus of 0.25% and 1.49%, which compares favourably with an average eurozone deficit of 1.85%.

However, in southern Europe, there is a long history of governmental struggle with public finances. Italy and Greece have traditionally been highly indebted countries where public deficits are mainly structural in nature. This is primarily due to a lack of public spending effectiveness and poor budgetary management. Thus, Greece, Italy and Portugal have also had considerably higher structural deficits than the eurozone average.

Italy, Greece and Ireland saw veritable boom times in 2000-2005, while Portugal's most recent time in the sun was 1995-2000. But the problem was that none of these five countries used their years of strong growth as an opportunity to reform their public finances while they had the chance. Because of this, the last ten years or more in Italy and Greece have been a time where public debt ratios surpassed 100% of GDP, while interest charges, which are admittedly lower than pre-erurozone years, still siphoned off over 5% of GDP each year.

During the boom times, Portugal, Spain and Ireland were able to maintain significantly lower levels of public debt, but now these are the countries that have experienced the worst deterioration in their public finances since the start of the global financial crisis.

The team from Credit Agricole thinks the pressures on public finances in all of the above mentioned countries are unlikely to get any better in the foreseeable future. The team predicts that government deficits and debt will undoubtedly grow in 2010, while the output gap will remain sharply negative.

However, the team also thinks it would be incorrect to lump all of these countries into the same basket, thus Credit Agricole has looked at a combination of factors to determine a sort of ranking system.

The team says their ranking system can be best explained by the level of primary deficit and of public debt forecast for 2010. Italy comes out with the lowest risk because of the low primary deficit forecast this year, which is only 0.6% of GDP. Conversely, Greece has the highest risk, as it combines a high initial primary deficit and public debt, at 125% of GDP.

There is an even bigger cloud looming on the horizon, though, and that is the increasingly strong impact of population ageing on state spending. Given the proportion of older people in the European population is steadily growing, CA believes the situation of public finances will inevitably continue to deteriorate in both the near and long term.

Citing European Commission projections, the team predicts that population ageing will severely impact public finances by decreasing government revenues and increasing spending, most notably on healthcare and pensions. Credit Agricole notes this is particularly the case for countries in southern Europe, where demographic changes are even more apparent and pensions particularly generous.

Major reforms have been implemented in Italy and Portugal to cope with these problems, but in Spain and even more so in Greece, little has been done to soften the impact of the demographic shock. In fact, by 2060 age-related expenditure will increase most in Greece, then Spain, while if current reforms are properly implemented, the rise in spending will be less pronounced in Portugal and Italy.

Yet the team thinks it is Ireland that will have to make the biggest fiscal effort given the recent and very severe deterioration in its structural primary deficit. Greece will also have to make a very substantial fiscal effort, due to the scale of its age-related spending, with ageing alone implying an additional fiscal effort of 7.7 points of GDP by 2060.

On the other hand, Italy has the lowest risk according to Credit Agricole, with the age-related related issues less of a problem because of a better overall fiscal situation and recent work towards structural reforms.

So what is the overall ranking between these bottom five of Europe?

In the short and, more importantly, the long term, Credit Agricole finds that Greece is by far the riskiest country. With a cocktail of high public debt, a severely degraded budgetary position and major demographic concerns.

Ireland and Spain come next, although the recent deterioration in their public finances is at least taking place in an environment where initial public debt levels are lower.

Portugal is facing problems that are more short-term in nature, with the longer term, age-related risks looking less problematic. However, the team notes that the structural weaknesses surrounding the Portuguese economy will continue to impact on public finances over the longer term.

That leaves us with Italy, which Credit Agricole sees as being the country with the lowest public finance related risk thanks to the fiscal efforts made in recent years combined with structural pension reforms.

By Chris Shaw

Each year Saxo Bank, an online trading and investment specialist, offers up ten "outrageous claims" to provide investors with a chance to mentally stress test their portfolios. Last year Saxo was quite bearish, but this year it is basing its claims on expectations 2010 will prove to be a year of reflation and consolidation, meaning its claims are more balanced than was the case in 2009.

This in part reflects Saxo's view that financial markets in 2010 will continue to benefit from the stimulus measures introduced in 2009, as evidenced by leading indicators continue to move strongly higher. This means weak growth in the first half of 2010 is regarded unlikely, though the second half of the year may be more challenging as risk willingness in the first half of the year will increase the danger signs for investors as the year draws to a close.

One emerging trend likely to be sustained for some time is deleveraging, especially in the private sector in response to higher unemployment, excess spare capacity and greater difficulty in accessing credit. As well, there are signs of a change in international capital flows, as it is unlikely rapid consumption growth will continue in the developed world in the next few years. These trends have influenced Saxo's claims for what may occur in the year ahead.

Over now to Saxo Bank's claims. The first claim is the yield on German bunds will reach 2.25%, with the investment specialist suggesting a combination of deflationary forces and excessive monetary policy will see yields edge lower as traders refuse to buy into the growth story being implied by the equity market. Saxo suggests one or more negative macroeconomic triggers could force bund prices to 133.3, which compares to a current price of 122.6.

Claim number two is that the VIX, which is the Chicago Board Options Exchange Volatility Index, will trend down to 14 during 2010, which compares to a current level of just below 18. Saxo suggests this could happen as it appears the market's assessment of risk is more and more resembling that of markets in 2005/06 when trading ranges narrowed and implied options volatility declined. In other words, claim number two reflects on the chance of increased complacency towards risk on the part of investors.

Claim number three sees potential for the yuan to be devalued by 5% against the US dollar during the year, as there is a risk the efforts of policymakers to stem credit growth to avoid bad loans and the creation of asset bubbles could show Chinese investment-driven growth to be short of expectations. This becomes a bigger risk given China's massive spare capacity and its economic backdrop and so could force the hand of policymakers with respect to the currency.

With respect to gold Saxon Bank suggests there is some speculative element in the price at present, so a general strengthening of the US dollar could see the gold price drop as low as US$870 per ounce (claim number four) from gold's current level of around US$1,130 per ounce. Long-term the group remains bullish on the metal and takes the view gold could hit US$1,500 per ounce within 2014, so even a drop below US$900 wouldn't push the metal out of its long-term uptrend.

A stronger US dollar is certainly in the group's sights as it suggests the greenback could recover against the yen in particular sometime in 2010, both because the carry trade has simply been too easy and the Japanese currency is not reflecting the true state of economic conditions in Japan. Saxo's fifth claim is the USD/yen rate could move to 110 from around 89.30 now.

Claim number six sees the formation of a third political party in the US that could become a deciding factor in Congress following the mid-term elections this year. Saxo suggests this because it senses there is general disapproval of both major parties among the US electorate at present, increasing the calls for real change going forward.

While it may sound outrageous, Saxo Bank's seventh claim sees the US Social Security Trust Fund go broke. This, explains the bank, is an actuarial and mathematical certainty as 2010 may well be the first year where outlays from the non-existing trust fund will need to be financed at least in part by the government's General Fund. This will mean part of social security outlays will need to be funded by higher taxes, more borrowing or the printing of more money.

While a drought in India and greater than normal rainfall in Brazil has supported sugar prices Saxon Bank doesn't see the strength as sustainable, pointing out the forward curve is already indicating considerable downside beyond 2011. As well, high ethanol prices have caused both Brazil and the US to lower the ethanol share of gasoline, which means lower demand. This forms the background for claim number eight: sugar prices could drop by as much as one-third from their current levels of around US$23.33 per pound.

Small cap companies have underperformed the Nikkei lately, but on Saxon Bank's calculations this has come despite their fundamentals suggesting a better investment case than for their big cap peers. Given a price to book ratio of only around 0.77 at present and with only 12% of the TSE Small Index made up of financial stocks, Saxo sees scope for this index to surprise on the upside. Claim number nine is the TSE Small Index could potentially rise by as much as 50% from its current level of around 888 points.

Finally, Saxo Bank's tenth outrageous claim sees the US trade balance again turn positive this year, which would be the first time since the oil crisis in 1975. This could occur in the bank's view because the US dollar has become cheap enough to stimulate US exports and punish exports, which has already seen the trade balance improve somewhat in recent months and may see the currency improve further to record a positive reading for one or more months during the year.

Having offered the above claims Saxon Bank has also offered its top ten trade picks for the year, the first being to be short the euro and South African rand against the Turkish currency given inflationary pressures appear to be building in the Turkish economy and both other currencies appear overvalued at present.

Secondly, Saxo suggests going long German bunds as current pricing appears overly optimistic given the economic problems both German and the European Union (EU) in general are facing, given expectations of low growth and a number of deflationary pressures and high unemployment levels as a whole in the EU in particular.

While neither Japan nor the Eurozone will offer much help, Saxon also sees 2010 being a good year for the CRB Index as global growth in demand for commodities should remain strong. This is top ten trade number three, with the best price performance likely to be seen in the first half of the year.

Saxo also likes a trade of long US 10-year bonds and short Japanese Government Bonds (tip number four) as the US offers greater upside from deflationary pressures thanks to credit contraction in that economy while there is little incentive to lend money in Japan given low yields and an already debt burdened economy. The other positive is there is some forex exposure inherent in the trade, meaning another way for investors to generate a positive return.

Given expectations small cap stocks in Japan are likely to outperform their large cap counterparts, Saxon favours going long the TSE Small cap index and short the Nikkei (tip number five), especially given the fact the yen is weakening at present and the Japanese government has indicated it favours a weaker currency for trade reasons.

With US stock indices priced for a steep recovery heading into 2010, Saxon Bank takes the view likely weak levels of capital investment mean this is not fully justified, so it suggests going long the GWX ETF of companies in developed economies and going short the NASDAQ100 index (tip number six).

Its view sugar prices will come under pressure this year sees Saxon recommend selling the March 2011 sugar contract (tip number seven), supported by its view supply is bound to expand as growing conditions improve in both India and Brazil.

For the first half of the year Saxo also recommends going long the IShares S&P Global Energy Sector Index Fund (tip number eight) as it sees the energy sector generally as a beneficiary of a global economic recovery plus a rebound in resource demand. The sector has recently started to catch up to the move in the oil price and this is expected to continue, which should help drive outperformance as more funds are rotated into energy investments and in particular the large integrated players in the sector.

Back in currency markets, Saxo Bank sees potential in a short euro/Canadian dollar strangle (tip number nine), as 1.55 appears to be something of a pivot point and 1.39 to 1.76 has captured nearly all extremes over the past five years. Breaking down the trade, the bank suggests selling 1-year December euro puts with a strike if 1.45 and selling euro calls with a strike of 1.68 to receive 590 Canadian dollar pips.

Its final trade recommendation for the year (number ten) is to go long the December 3-month short Sterling future contract as the bank takes the view the British economy remains in the doldrums, adding to the potential for the Bank of England to keep rates unchanged for an extended period of time, similar to what the Federal Reserve is doing in the US economy.

By Andrew Nelson

Global commodity markets have continued to perform far better than most would have dared to hope, starting to rise in the second quarter of last year on the back of Chinese stockpiling and then continuing the advance into the new calendar year on an increasing expectation of economic recovery, a declining US dollar, supply concerns and growing interest in commodities as an asset class and a hedge.

Yet so far the steady recovery has been without any real increases in physical demand. However, as recovery turns from hope to a shaky reality, analysts are starting to ratchet up their commodity price expectations. Most seem to be betting on a continuation of the improving investor sentiment toward commodities, with a recovering Western World and a firming Chinese economy expected to underpin commodity markets well into 2010.

In fact, notes Canadian investment bank BMO Capital Markets, improving demand expectations and the numerous labour issues that are popping up in producer countries have many beginning to anticipate tighter supply/demand conditions, which could lead to possible deficits as early as late 2010 to early 2011. Thus, BMO predicts that commodity markets will remain firm as long as the demand prospects keep improving, especially in the United States and China.

But prospects of demand and actual physical demand are two different kettles of fish, so BMO, while seemingly optimistic, still thinks prices wont run that aggressively over present levels in the nearer-term. This is a view that is echoed by analysts at Deutsche Bank in Australia, who yesterday made significant and sweeping increases to their commodity price forecasts pretty much across the board. While the team from Deutsche believes 2010 will see the return of real physical demand for commodities, the analysts still see the year as being one of ebb and flow for commodity prices.

Deutsche Bank thinks base metals will likely peak in the months ahead and then weaken in 2Q-3Q due to seasonally lower Chinese imports and an expected bottoming of Chinese GDP growth in mid 2010. This in turn will see the as yet to materialise physical demand recovery in the US and Europe take a breather in the medium-term. But by late 2010, the broker is expecting to see renewed demand from China, making 2011 a good year not just for base metals, but the commodities space as a whole.

Deutsche is most bullish on the bulks (iron ore, thermal coal, coking coal) and aluminium, upgrading price forecasts by 20%-40% across the space. The broker also remains positive on copper, nickel and gold.

Yet despite expected strong increases in bulk commodity prices in 2010, the broker thinks that both coal and iron ore stocks have priced in much of the upside. The team sees Rio Tinto ((RIO)) as being the best way to take an exposure to the bulks, particularly iron ore. Thus the broker prefers Rio over BHP Billiton ((BHP)). Deutsche also thinks that small names such as Avoca Resources ((AVO)) offer better leverage.

The broker's iron ore and base metal upgrades see it earnings estimates for Rio increase by around 35% in 2010 and 2011, while its BHP numbers increase by about 25%. The biggest EPS increases the broker pushed out yesterday were for Macarthur Coal ((MCC)) and Centennial Coal ((CEY)), whose FY11-12 forecasts were lifted by 40-60%.

Looking at sectors on a Price to Earnings basis, the broker finds that the cheapest sector is still copper at 12x 2010 and 8x 2011. This is followed by Nickel at 13x 2010 and 8x 2011. Even after the upgrades, the large diversified miners are still looking affordable on the broker's numbers, with Rio trading at 14x 2010 and 11x 2011, while BHP is currently trading at 13x FY11 on Deutsche's numbers.

The broker also continues to like Alumina Ltd ((AWC)) given further increases to what it call its "contrarian" aluminium view. The broker's aluminium price forecasts were increased by around 20% in 2010 and 2011 and this saw EPS increases of 20-50% and a 2011 PER that falls to sub 10x levels. This optimistic view is also shared by Canadian broker Salman Partners, who thinks that not only do the most recent numbers for aluminium look good, but claims the metal has made "a clear unequivocal turn".

Yet while Deutsche believes its long-term bullish case for commodity prices is well founded, it fears the prospect of asset market volatility during 2010 could put the brakes on the commodities complex.

The team from BMO are right on board with this view, believing there could be a bit of a correction in the short run in some commodities such as copper, zinc and aluminium given the size of the recent rally in these metals and the rally's non-fundamental (demand-less) nature. Rising inventories for some metals, moderating Chinese imports, the recent firmness of the US dollar and an end to work stoppage concerns could well be catalysts for a modest correction in the near term, reason the Canadians.

Looking later into 2010 and BMO thinks the aggressive monetary and fiscal stimulus programs put in place by China, the US and most other major economies will begin to have a very positive cumulative impact on consumption. Low inventories, plus consumer and government spending are also expected to re-ignite demand and lift manufacturing.

The team notes sharp declines earlier in the year in manufactured good inventories and stocks of steel and other raw materials held by manufacturers around the world mean that a considerable level of restocking should begin to occur as demand bounces higher. This view is fairly consistent with what is already occurring in China.

And it's not just metals that will benefit, notes BMO, whose view on oil is also optimistic. The bank expects 2010 global oil demand will increase by more than one million barrels a day.

This, along with OPEC production discipline and the sharp drop in oil and gas development investment over the past year will likely turn prices meaningfully higher in the year ahead. This is a view that is echoed by Australian analysts at JP Morgan, who today lifted their 2010 oil price forecasts by 14% to US$79/bbl and by 24% to US$87/bbl for 2011.

By Greg Peel

Australians have become great recyclers over the past couple of decades, helping to do their bit to spare the over-exploitation of natural resources by dutifully placing their glass, paper, metal and plastic waste in the appropriate bin.

Australians have also become adept at challenging the modern methods of Big Farming, returning to a more ancient and efficient exploitation of ecological relationships and cycles that sees animals and vegetables living harmoniously and nothing wasted, right down to the chook-poo. Such practices are loosely known as permaculture.

Australian mining companies, on the other hand, have rarely won awards for their efficient and harmonious exploitation of the country's natural resources. For over a century it's been more a case of dig a big hole, take what you want, and leave the rest behind in an ugly pile to create a blot on the landscape.

Slowly the concepts of recycling and efficient use of all by-products are creeping into the mining industry. The reason for this is twofold. Firstly, the focus on environmental issues and resource over-exploitation in the twenty-first century has forced mining companies to address the efficient disposal of their supposedly unwanted by-products. Secondly, the emergence of new economies, particularly China, has made the price of absolutely everything expensive or, looked at another way, commercially valuable.

A case in point has been the recent explosion in value of natural gas and coal seam methane resources. Oil producers once flared off the natural gas invariably trapped in a well above the actual oil because it was only the oil they wanted from a commercial perspective. Apart from the carbon dioxide ramifications of such wanton flaring, natural gas has since been recognised as a cleaner fuel source in its own right. As oil resources diminish across the globe, Australia's natural gas reserves have become the focus of global attention.

So too has the methane invariably trapped in differing volumes in coal reserves, sparking the sudden local coal seam methane industry. While coal miners may have been looking at a costly need to address the methane once casually released into the atmosphere now that mandated carbon reduction is closer to reality, the fact that this CSM can be converted into liquid natural gas means CSM is actually a valuable resource in its own right.

Imagine if we'd cottoned on to all this decades ago.

But what can we say of the humble metal miner? The earth's metallic elements are not found in conveniently discrete and homogenous lumps at various points under the surface, they are found in the form of oxides and sulphides and what have you which are dispersed amongst other supposedly worthless lumps of rock in varying concentrations. There is a little bit of everything everywhere, but geologists spend their lives looking for places where ancient geological activity has provided a point of excessive concentration of elements, such that the mining of such a site is commercially viable.

And even then, miners dig up and process huge amounts of rock just to extract elements in concentrations of less than 1%. The other 99% is by-product of one form or another, and often considered worthless, or at the very least not worth trying to exploit further.

Golden Cross Resources ((GCR)) is taking a different approach, refining the concept of exploiting every possible product and by-product from its Copper Hill copper-gold mine which lies between Orange and Parkes in NSW, not far from Newcrest's ((NCM)) Cadia-Ridgeway copper-gold project. Copper Hill is the most advanced among a suite of Golden Cross-owned Australian sites, with an in-ground resource estimated to contain 421,000 tonnes of copper and 1.2m ounces of gold for a mine life of near twenty years.

Golden Cross is first to admit Copper Hill is a low-grade resource. However, in a twist on normal practices Golden Cross sees copper sulphide not primarily as a source of copper, but also as a source of sulphur.

In a press release last month, Golden Cross outlined its project as follows [Warning: science content]:

"Maximising the return from the existing resource is possible if all sulphides can be floated, roasted and converted into acid soluble copper and free gold within an iron oxide-rich roaster calcine. Cathode copper can be produced by solvent extraction from the calcine followed by electro-winning (SX-EW) with the gold leached by cyanide, recovered by carbon-in-leach (CIL) and smelted to gold bullion. Roaster exhaust sulphur dioxide will be captured to produce sulphuric acid for copper leaching with the excess available for sale. The residual iron oxide calcine should find a ready market in the steel-making industry."

In other words, Copper Hill will produce copper and gold but it will also produce sulphur for its own re-use and for commercial sale, and even the residual iron will find a market place. Based on assumed prices of copper at US$2.70/lb, gold at US$800/oz and sulphur at US$30/t, an Aussie dollar at US$0.85 and a 10% risk discount, Australian Mine Design & Development calculates Copper Hill to have a discounted cash flow valuation of $360m. At current levels, copper is trading at around US$3.15/lb, gold at US$1125/oz and sulphur at US$100/t. No assumption has been made for iron sales.

It's not rocket science, it's not a patented process, and Golden Cross has no specific first-mover advantage on such a system. It is merely efficient mine exploitation which, by virtue of high prices for all elements, makes a run-of-the-mill copper-gold project that much more valuable. And it is a process that should prove sufficiently environmentally friendly to attract carbon credits under such a scheme. As Golden Cross notes:

"There are environmentally positive aspects emerging from the proposed process. The flotation of all sulphides to feed the roaster brings the environmental benefit of cleaner tailings. The roasting process is autogenous and self-sustaining using the sulphides as fuel.The sulphur dioxide exhaust, essential for acid production, will be captured to the maximum extent possible. The roasting process generates considerable heat which may be used for power generation as is done at Olympic Dam and elsewhere. Carbon credits should be obtainable."

Golden Cross has formed a strategic alliance with HQ Mining Resources – a company which shares common shareholders with the Beijing-based CUMIC mining and mineral investment company. HQ will provide access to capital and mining and processing equipment from China. The China National Automation Control System Corp (CACS) has reviewed the Copper Hill site and data and estimates a $5.8m cost for a Bankable Feasibility Study at a standard acceptable to Chinese banks. CACS has the capacity to take all the copper produced at Copper Hill.

Golden Cross has secured funding for further exploration of the Copper Hill site, and boasts other exploration sites in over a dozen Australian locations, as well as in Canada and Panama.

Golden Cross has a market capitalisation of around $25m, a 40% free float and a share price of near two cents.

Green mining? Who'd have thought?

By Andrew Nelson

It is certainly a different oil market this December than it was the last. By December last year crude oil was trading down in the US$30s/bl and investment markets around the world were dressed out in funeral attire. This was just scant months after crude prices scaled to all time highs close to US$150/bl back in July 2008, with many predicting US$200/bl was just around the corner.

But by last December the GFC was in full swing, with havoc having been wreaked on financial markets the world over in the preceding three months. The questions investors were asking about oil last December were: How long will the global recession last and how deep will it be? How far will demand fall as a result? And will the damage being done to the global economy and its financial institutions be permanent?

In such a market, liquidity became the holy grail sought by investors. Risk in any form was avoided like an infectious disease and long-cycle dynamics carried little weight in a world that had quickly become afraid of sharp discontinuities and institutional fragilities.

Yet 12 months on and the price is back above US$70/bl, and instead of discussions being focused on how far can oil fall, the predominance of current commentary is speculating on: How soon will the current recovery be consolidated? How fast will demand rise as a result? When will sub-optimal investment levels translate into supply-side crunches? When will crude oil break out of its US$70s range?

The main reason for this shift is that having more liquidity and less risk is no longer the goal of your average or even institutional investor. At the same time, the longer cycle concerns about underinvestment have also helped place a solid floor under crude prices.

Commodities analysts at Barclays Capital note that one of the key lessons learned in 2009 was exactly what happens to the international oil industry at prices below US$70/bl. Deep cuts emerged early in the down cycle for prices. Significant investments were first questioned, scaled back and then cancelled, while those companies most reliant on cash flow quickly hit the wall in an environment where there was no longer credit.

It's this lesson that has the team from Barclays thinking that recent prices are not too high for current "fundamentals" because a main feature of the "fundamentals" is that the oil industry simply cannot operate sustainably at prices much lower than current levels. In fact, Barclays ponders whether the last year will go down in the history books as the year in which the world discovered how high the floor for oil prices needs to be in order to maintain a sustainable, balanced market over the longer term.

The bank's current forecasts have crude oil pushing up to an US$85/bl average in 2010 then to US$87/bl by 2011.

Analysts at RBS also expect oil demand to recover over the next two to three years, as world GDP turns positive. However, the broker believes the growth in demand will be mainly in Asia/Pacific ex Japan and in the rest of world areas. In the more mature industrial regions the broker expects little or no growth in oil demand in the period 2009-2012. As such, RBS predicts flat prices over the next 12-18 months as economic recovery helps demand begin to rise.

"There will definitely be a risk of short-term pull-backs if economic data disappoints," says RBS. However, from mid-2011 onwards, the broker expects to see consistently rising demand, which in turn will push prices over US$80/bbl and towards US$90/bbl. There is however, admits the broker, a chance that prices could spike over US$100/bbl at any time in the next three years.

Commonwealth Bank has also lifted its oil price forecasts for the coming year, noting crude prices have proven more resilient than anticipated over recent months.

While the bank doesn't expect any strong gains in the oil price in the coming year given current prices already seem to be factoring in an international economic recovery, CBA now expects prices to start edging slightly higher over 2010 after a few flat months early in the year. CBA then sees the price moving higher again over 2011 as the international economic recovery gains more traction and markets become more concerned with medium-term oil supply-demand fundamentals.

There are some risks that the data flow from developed economies will fall short of market expectations, which could see intermittent dips in the oil price, notes CBA. But ultimately, the bank thinks that any dip in the oil price towards US$70/bl would likely just attract fresh buying, thus putting a floor under any sort of sustained pull-back.

By Greg Peel

Since stock markets began to factor in a turnaround in global economic fortunes from March this year, there has been an obsession with alphabet soup. The stock market is a leading economic indicator, and from March to now it has roughly traced out a "V" bounce in the US and elsewhere. It thus follows that the global economy should bounce from its GFC depths in a sharp "V", meaning a rapid return to normal GDP growth.

Even as the stock market began bouncing, protagonists were locked in a debate whether the following economic bounce would trace out a "V", a "W" (meaning double-dip recession), an "L" (meaning a flat line of zero growth a la Japan's lost decades), or a "U" (meaning a more gradual turnaround).

Just to confuse the issue, another favourite was the "reverse square root sign", in which the economy initially bounces like a "V" but only gets some way back before flat-lining like an "L".

Last night the first revision of the third quarter GDP was released, which took the number down quite substantially from an initial 3.5% estimate to a 2.8% first revision (one more revision to come). The last quarter of positive US GDP growth was the second of 2008, being 1.5%. The next four quarters were all negative, at 2.7%, 5.4%, 6.4% and 0.7% respectively. The third quarter 2009 represents the first post-GFC positive quarter, but already that has been revised down. Current consensus has the fourth quarter looking at only 2.4% growth.

Not much of a "V" then really, despite a stock market which has recovered 50% of its losses. We might still be heading for a "W", a reverse square root sign, over even an "L" with a bit of license. Or we might simply be in part of a wider "U", in which recovery is evident but slow and sluggish.

Nouriel Roubini of Roubini Global Economics (RGE) was a stern voice of bearishness in the lead up to the bursting of the debt bubble, constantly warning as the decade unfolded that a bursting of the debt bubble was inevitable. It cost his followers a few years of super-positive returns, but clearly Roubini was ahead of the game. He thus went from being dismissed as a pesky uber-bear to being lauded as an oracle.

Roubini dismisses all letters of the alphabet other than an extended "U". He sees a slow recovery out of global recession rather than the "V" bounce suggested by stock markets, and this week offered ten reasons why. He also notes that the third quarter US result was heavily fiscally stimulated, which may only result in growth potential in the future being "stolen" and stashed in the third quarter '09.

(1) It is noted often enough that the US consumer represents 70% of US GDP, and given the size of the US economy this translates into about 16% of global GDP. The importance of the US consumer cannot be overstated. The top 20% of US earners account for 50% of all income and 50% of all consumption. They are also the households which respond positively to a rise in stock prices.

The "V" bounce bulls believe the "V" bounce which has occurred in the stock market will feed back into a "V" bounce in consumption as wealth is returned via stocks. But Roubini notes stocks are still 30% below their 2007 peak and in inflation-adjusted terms still 20% below where they were all the way back in 1999. The return of wealth is thus not particularly substantial, and positive wealth effects from stock markets take longer than a year to materialise if history is any guide.

This suggests the stock market "V" is not enough in itself to assure a 2010 economic "V".

(2) And then we need look at the other 80% of the population which represents the other 50% of income and consumption. This group is not much affected by stock markets, rather it is far more affected by house values. RGE is still forecasting an ultimate 40% drop in house prices from their peak, implying up to a 10% drop in prices still yet to come. Throw in high unemployment, which RGE sees peaking at 10.8% in the second half of 2010, along with the big reduction in hours worked which effectively equates to another three million jobs lost, and you have few reasons for half of US consumers to revert straight back to "normal" spending patterns.

It is more likely they will be cautious and thrifty in 2010.

(3) Most economic recessions are earnings-driven but this one has been balance sheet-driven. The financial crisis has been caused by over-leverage and the accumulation of too much debt, notes Roubini. History shows recessions following financial crises of this nature tend to last longer and lead to weaker recovery.

It won't be different this time, Roubini suggests. Households have stopped increasing debt but they haven't exactly been reducing it quickly either. But there has been a massive re-leveraging in the public sector to compensate for what the private sector has lost. In order to pay for this releveraging out of the private sector eventually (to not do so would be to simply increase the deficit forever) it is inevitable that taxes will be raised and the tax base widened.

In the meantime, while the public sector pumps out massive amounts of debt it is crowding out private sector attempts at the corporate level to get back in the game. And as households quietly reduce their debt to income ratios, together the private sector will not compensate for public sector debt.

(4) Capacity utilisation across the globe has improved but remains at a very low 70% in both the US and EU. An economy grows by creating new capacity but it cannot grow at all while almost a third of capacity is laying idle. Excess capacity in both regions and in China can turn into deflationary pressure, Roubini notes, "down the line".

(5) The global banking system has been severely damaged. Already over 200 small banks have failed in the US and there's another 400 on the watch-list. The big US banks have reported most of their losses but many European banks still have a long way to go. Roubini suggests global credit losses will peak at around US$3 trillion and we're only half way there.

In the meantime, the "shadow" banking system (non-bank lenders, special investment vehicles and "conduits") has been blown away, with over three hundred shadow banks out of business. Securitisation is all but dead despite ongoing attempts by the Fed to support and reignite the market.

Roubini suggests this means less credit growth which would otherwise flow to corporates and households, further crimping their capacity to consume.

(6) It has already been noted that house prices have further to fall. The commercial real estate cycle is lagging behind residential, Roubini suggests, and losses will materialise in the sector and act as a drag for several years.

(7) Fiscal and monetary stimulus across the globe is "backstopping" the financial system and preventing recession becoming depression. That's all well and good, but how do you get out of it?

The risk of pulling support too early is that the economy is not yet actually breathing on its own, and could fade straight back to recession (the "W"). But keeping support going for too long means massive deficits incurred to support rapid recovery ("V") will ultimately lead to runaway inflation. Even before such inflation makes its presence known, a stimulus-fuelled bubble-and-bust cycle could well occur.

On that basis Roubini sees both the "V" and the "W" as dangerous. Careful consideration of government and central bank exit strategies will be required and the margin of error is great.

(8) The developed world not only has to fight all of the above to get back to normal growth, it is now looking at lower potential growth. Roubini suggests potential growth in the EU and Japan stood at 2% before the crisis, but has now likely been shattered. Until these governments launch "aggressive" structural reforms, potential growth will not return and actual growth will remain anaemic.

(9) Consumer "retrenchment" by previously overspending countries (Roubini singles out the US, UK, Spain, Ireland, emerging Europe, Australia and New Zealand) as they move to reduce debt to income ratios, could be compensated by savings growth elsewhere. But real wage growth in the saving countries (Germany, Japan) will lag and there is little incentive to increase savings anyway.

There will not be a balance. The over-spenders are pulling back from spending but the over-savers are not increasing their demand to match.

(10) A lot of weight has been put on the shoulders of China and other emerging markets as global economic saviours. RGE is actually even more bullish about these economies (the ones entering the GFC with current account surpluses at least) than the market. But there's one small problem.

Today Chinese GDP is US$4 trillion and US GDP is US$14 trillion. Together the US, Germany and Japan represent US$40 trillion Get the picture? It's a long road to hoe.

Three hundered million Americans consume US$10 trillion while 1.3 billion Chinese consume US$1 trillion and a billion Indians consume US$600 million. Chinese and Indian consumption together equates to about a sixth of US consumption. It's a big stretch to ask China and India to increase consumption quickly enough in the short term to compensate for that lost in the US. Then expand that equation to the rest of the world.

To conclude, RGE sees US GDP growth in 2010 as a sluggish 1.5-1.8%. The Fed has long been warning economic recovery will be sluggish too, but its current 2010 forecast is 2-4% growth. Not even the Fed would call this a "V". Roubini is calling a stretched-out "U". The stock market, on the other hand, is still saying "V".

But at least Roubini is still seeing a "recovery" no matter what the alphabet soup throws up.

By Greg Peel

French bank Societe Generale has made the headlines many times in the past two years, but two particular occasions stand out. The first was in January 2008 when, under cover of a US holiday, the bank dumped billions of dollars worth of shares onto the market which had been surreptitiously accumulated by a "rogue" in SocGen's midst. While the end result made little difference, that trade set the tone for 2008.

By May of 2008, SocGen was stealing the limelight once more, announcing it had moved its balanced investment portfolio to its statutory minimum weighting of 30% equity, predicting a stock market collapse of 50-75%. In January world markets had been trying to recover out of Christmas. In May, markets had managed a 50% retracement of the fall from the highs, figuring the collapse of Bear Stearns was the end of the crisis.

In both cases, SocGen helped turn sentiment around.

And the analysts weren't too far off the mark. The complacent bulls laughed off such a dire prediction in May, but we ended up down about 55%. We have now, once again, retraced 50% of the drop from the high in 2007, this time post-Lehman rather than just post-Bear Stearns. Things are clearly looking brighter than they did, and thoughts of SocGen's 75% have been put to bed. Or have they?

SocGen is not making a specific prediction this time, rather the analysts have issued a warning against a possible worst-case scenario. And it's all to do with global debt. Start shorting cyclical equities, they say, including those in emerging markets. Sell the US dollar and buy government bonds. Buy agricultural commodities and gold. Buy lots of gold.

SocGen is readying its clients for a possible "global economic collapse" over the next two years, with its warning contained in a report entitled "Worst-Case Debt Scenario". What the analysts base their fears on is simple and patently obvious, to wit, the public "rescue" of the private sector has not solved any pre-GFC problems in regards to excessive debt levels in the developed world. It has simply transferred the debt from the private to the public balance sheet.

Total public and private debt in the US has now reached a level of 350% of GDP. That's like saying an individual would need to use all of three and a half year's worth of income just to pay off his credit card. Public debt alone will reach dangerous levels within two years, says SocGen, at 105% of GDP in the UK, 125% in the US, 125% in the EU and 270% in Japan. Total world state debt will reach US$45 trillion, representing a two and a half times what it was only ten years ago.

This is an underlying debt burden greater than what it was after the Second World War. One might thus suggest "well we survived that okay", but remember that following the war was the baby-boom, the explosion of mass production and the advent of the consumer society. It was a golden age of growth.

This time around, the baby-boomers are ageing and threatening to place a huge burden on the public purse. And growth is in the labour-unintensive information and technology industry. In short, there seems no golden age ahead.

SocGen believes we have all but reached a "point of no return" for government debt. Put simply, developed economies will never to be able to produce enough income to net reduce debt levels. A deflationary spiral will prevail, making the whole of the world look like Japan in its "lost decade". Emerging markets will be dragged down as well given they are more leveraged to the US economy than even Wall Street is.

Governments may only have one choice, and that is to hyperinflate their way out of debt by simply printing money. When money is printed, everything loses value, including debt. Welcome to Weimar.

Government bonds would be purchased by central banks just as has been the case in quantitative easing measures to date. Yields would fall to near zero on longer dates. Gold would absolutely soar. Food would become very expensive.

I repeat: this is not a prediction, this is a warning.

By Greg Peel

China released a raft of monthly economic data today which confirmed hopes (or might that be fears?) that China's economy is continuing to accelerate.

Industrial production rose 16.1% year-on-year in October – the fastest growth rate since March 2008 – and retail sales leapt 16.2%. Urban investment has surged 33.1% in the ten months to October.

If it were any other economy, inflation alarm bells would be ringing from every belfry. But while China's consumer price index (CPI) has turned around in recent months from earlier disinflation, October's change remained slightly negative at minus 0.5%. The producer price index fell 5.8% (both numbers year-on-year).

Inflation, it seems, is not yet a worry. But economists now expect China to enjoy 10.5% GDP growth in the fourth quarter (up from 8.9% in the third) and expect Beijing must soon be forced to tighten monetary policy and appreciate the renminbi – measures which dampen economic growth.

Australia does not want China to dampen economic growth.

Inflation may be negative for now, but China's M2 money supply rose 29.4% year-on-year in October, up from a 29.3% rate in September and roughly in line with expectation.

A country's money supply can be loosely defined as the amount of actual cash or immediately obtainable cash floating around in that country's economy. However there are various grades, from M0 (coins and banknotes) to M1 (M0 plus cheque account balances and travellers cheques), M2 (M1 plus savings deposits, money market accounts and overnight repos), and all the way up to M6. For the purposes of forecasting price inflation, economists like to know the amount of M2.

Last year the Chinese government introduced a four trillion renminbi stimulus package which was implemented largely by flooding national and regional banks with cash, drawn from China's vast foreign reserve surplus, and then figuratively beating bank managers with a stick if they didn't on-lend. Infrastructure projects were high priority. The effect of this package was to greatly increase the amount of China's M2 money supply.

DBS Group Research notes China's M2 to GDP ratio hit an abnormally high 1.9 this year, compared to the ten-year average of 1.5. While price stability seems to exist, DBS economist Chris Leung suggests, within a ratio of 1.5 to 1.6, China's average consumer price index (CPI) growth of 1.6% in the period belies what otherwise might be expected as an inflationary fall-out from all that forced lending.

The excess liquidity should eventually lead to price pressure, the analysts believe, but at present inflation has been channelled mostly into asset prices – particularly stocks and property.

Prior to the 1980s, central banks across the globe were expected to control the amount of cash in the local system flowing between official borrowers and lenders, and to keep a lid on any significant currency scares, but not to concern themselves with inflation. Thus when the oil shocks were experienced in the 1970s, central banks allowed CPI inflation rates to bulge well into double digits. The result was a decade of economic recession.

And a lesson learnt.

Since the 1908s, central banks have been given the mandate to manage the balancing act between economic growth and consumer price inflation pressures, and set interest rates accordingly. What central banks still have no mandate to control, however, is asset price inflation which results when funds are too freely available. That is why then Fed chairman Alan Greenspan was happy to keep interest rates low in the mid-noughties while watching the US stock and particularly property markets bubble out of control. Cheap imports of Chinese goods were keeping a lid on consumer price inflation, so a more restrictive monetary policy, in Greenspan's opinion, was unnecessary.

And so we had a GFC.

One of the reasons the pre-GFC bubble was allowed to inflate is because the Chinese renminbi is pegged in a range to the US dollar unlike, for example, the yen. As the flow of goods from China to the US accelerated in the noughties, sending China into a large trade surplus and the US a large trade deficit, a floating renminbi would have appreciated in value, made Chinese imports more expensive, sparked consumer price inflation, forced the Fed to raise interest rates more swiftly, and perhaps a GFC would have been avoided. But as the US dollar fell in value over the decade, the renminbi went with it and the Chinese authorities enacted only a slight official appreciation of the currency. To allow more rapid appreciation would be to derail the Chinese economic miracle.

In a sense, we're now back in 2004. Chinese GDP growth is expected to exceed 10% in 2010, Chinese demand is pushing up commodity prices again, and China's stock and property markets are also bubbling again. For China, the GFC was just an annoying blip. But this time things are different, because China's economic growth is not being fuelled by fresh export receipts – exports are still way down from 2007 levels – but by existing export receipts. China is now living off capital, and not off America.

In the meantime, Alan Greenspan was last night endorsing his successor's similar low interest rate policy and pointing to improving US stock prices and stabilising housing prices as a measure of success. It's hard not to think the words "here we go again" are not applicable. But across the Pacific, RBA governor Glenn Stevens has become increasingly public about his asset price inflation fears, particularly with regard to the Australian housing market, and hinted that the two interest rate rises we've had to date are as much about preventing a runaway housing bubble as they are about getting in ahead of consumer price inflation fuelled by economic recovery.

Indeed, while Leung notes "central banks do not have the mandate to target asset bubbles given a worldwide lack of consensus towards defining what an asset bubble is," Stevens has admitted that RBA boards have been keeping a wary eye on asset (house) price inflation for years.

The People's Bank of China is new to this game however, and while it has learned all about the potential for runaway consumer price inflation, there is little developed world guidance on what to do about stock and property bubbles. Leung thus suggests the PBoC response to the current situation will be "reactive and timid".

The best the PBoC can do is enact measures that ensure stimulus funding is going into the right places, and not just towards stock and property "gambling".

China is not going to turn off the liquidity spigot anytime soon, because it looks like the policy is working, asset price bubbles aside. Many of the infrastructure projects generated by indirect government funding have multi-year completion dates, and many are being driven by both national and local government support. Funding will need to be maintained until completion, Leung notes, and increasing property values provide the funding to local governments to pass on in such cases. In other words, Chinese liquidity is here to stay for the time being.

Leung expects loan growth in China will reach 30% in 2009, dropping to 20-25% in 2010 before normalising to the 15% ten-year average some time in 2010 and beyond.

China also has to worry about a falling US dollar, which will take a pegged renminbi with it and push up import prices locally, thus also fuelling consumer price inflation. There is little the PBoC can do about the dollar. But Leung notes excess capacity in certain industries such as steel and cement is helping to keep a lid on inflation despite a building boom, and DBS suggests the Chinese CPI will probably rise no further than 3% in 2010. (The RBA would kill for 3%). The manufacturing sector should also help choke inflation given the fall in export demand.

China's other big problem is, however, the potential for runaway food price inflation which has proven problematic in recent years. One cannot control the weather, and one cannot control the US dollar value of grain imports, for example, and food is still the biggest household budget item for China's still mostly poor population. Fortunately, China enjoyed a bumper harvest this (northern) Autumn, meaning food prices should be stable enough for the next 6-9 months.

It is thus Leung's opinion that despite strong economic growth in China (and he was writing ahead of today's data but in anticipation of it) Beijing will not be moving swiftly to tighten policy – at least not until the Fed makes a move, and that seems a long way off at present. Even once the PBoC does begin raising rates it will be in the usual baby steps of 27 basis points per quarter. China's current cash rate is already 5.3%, so it hardly compares to the Fed's zero to 0.25% range or even the RBA's 3.5% at present.

This means that unless Beijing adopts some other form of administrative measures, China's stock and property bubbles have further to expand in the near term. China's growth development model will continue to be investment-led, says Leung, and will have to rely on bank funding unless financial market reforms can be rapidly increased.

"In the foreseeable future," says Leung, "it seems like there is no simple exit strategy for China". China will likely face the constant challenge to rein in inflation in 2010 before the real threat in 2011 and beyond, he suggests.

While Australia will watch with glee as China's economy once again bubbles, it does not want to see a bust. Particularly not in 2011, by which time the GFC hangover is expected to have worn off.

By Greg Peel

The biggest official (central bank) holder of gold in the world is the US, with around 8,000 tonnes. Next in line is Germany with about 3.4kt, followed by the International Monetary Fund with 3.2kt. Then come France and Italy before China slips in ahead of Switzerland and Japan.

The gold "owned" by the IMF was contributed by the US and the legacy European central banks on the establishment of the Bretton Woods agreement after World War II. The agreement saw currencies pegged to the US dollar, which in turn was pegged to gold, and also saw the establishment of the IMF. The specific role of the IMF is to provide low-interest loans to poor nations suffering economic hardship. As one might imagine, demands on the IMF have leapt since the GFC hit as countries from Iceland to Pakistan stuck their hands out for assistance.

IMF membership has grown since World War II to include many more secondary and emerging economies. However voting rights are still very much biased toward the founding members, with the US firmly in control. Even before the GFC hit, the IMF had petitioned the US on several occasions to be allowed to sell some of its extensive gold holdings. The last time the IMF sold gold was in 1999 following the Asian Currency Crisis.

But each time the US refused. The reason it refused was because the IMF had become fat and lazy, building up a substantial cost base without increasing its activities to match. The Fund did not need to sell gold to fund some economic bail-out or other, it needed money to cover its expense account. The US instructed the IMF that it would only be granted permission to sell gold if and when it got its house in order. And under a new director, it did.

Which was just as well. No sooner had the new director taken up office but the GFC hit and the switchboard lit up like a Christmas tree. Again the IMF asked for permission to sell gold, and this time it was granted. Clearly the money was now needed for its intended purpose. The announcement was made earlier in the year that the IMF would sell 403t of gold, or one eighth of its holdings, and sale permission was ratified by members only last month.

The amount of 403t initially sparked some nervousness in the gold market, which feared the IMF would dump gold on a volatile market. But under the rules, the IMF could only sell gold in a phased manner over time in the general market, or sell it off-market to central banks. In the latter case, sales still had to be at market prices irrespective of volume, so not to upset gold prices and subsequently currencies.

In order to ensure the "phased manner" of sales, the 403t amount was to be included within the 400t per year quota of allowable gold sales under the Washington Agreement. The European central banks – collectively the world's largest holders of gold – are signatories to the Agreement. This meant it might even take five years for the IMF to ease out its 403t.

But speculation was soon rife that the 403t might simply go in one hit. China surprised the world earlier this year by revealing that since 2003, when its reported gold reserves were 600t, the central bank had acquired a further 454t without anyone knowing by buying only from domestic sources. China only recently became the world's biggest producer of gold. What's more, China's desire to buy gold did not stop there.

Despite the increase, China's gold reserves still only represent around 1% or so of total foreign reserves, of which around 70% are held in US dollar-denominated assets such as Treasury bonds and agency debt. Since the GFC hit, China has been the most vocal critic of excessive US government debt and its effect on the value of the dollar. But with so much invested in US dollars, China cannot afford just to pull the pin.

Instead, it has attempted to diversify away from the US dollar by buying assets in other currencies such as the euro when reinvesting its export receipts. It has also enacted cross-currency deals with the likes of Brazil and Russia for long term energy supply, cutting out the reserve currency altogether. And it has bought gold.

China would like to buy more gold. That's why the gold market fairly quickly assumed China would simply stick up its hand for all of the IMF's 403t in one hit. The race would indeed be on, because Russia had publicly stated its intention to increase its ratio of gold reserves from 2% to 10% and Brazil was sniffing about as well. But in the end it was the forgotten BRIC that moved first.

The announcement last night that the Reserve Bank of India had purchased 200t of the IMF's 403t suddenly sparked up a gold market previously very nervous about a bounce in the US dollar. Gold has recently rushed back through the US$1000/oz mark and beyond on ongoing US dollar weakness, but most recently it has wavered as the dollar has stalled. Last night's revelation saw gold shoot up around US$30 to around US$1085/oz – its highest ever nominal price. (Note that the 1980 previous high of US$850/oz represents more than US$2000/oz in today's dollars.)

India is no stranger to gold, being the world's largest private commercial buyer of the metal for the purpose of jewellery making, which in turn is driven by India's two annual gold-giving festivals. Of all the gold produced in the world each year, around 80% becomes jewellery. While 200t is a lot of gold, and certainly a very large volume to exchange hands in one hit, it still only represents 8% of average annual global production.

Indeed, at US$6.7bn in value the amount pales in comparison to the sort of money governments across the globe have been throwing at bank rescues. Only last night Royal Bank of Scotland accepted another injection of US$31bn from the UK government. Warren Buffet's Berkshire Hathaway offered to buy the Burlington Northern Santa Fe Railroad for US$34bn. As Gold Anti-Trust Action Committee secretary Chris Powell suggested this morning, the amount "seems like peanuts".

That hasn't stopped the world speculating on what might happen next.

The general opinion is that the transaction is positive for the gold price going forward as it crystallises the intentions of the BRICs and other countries beyond that which to date has been mostly chatter in relation to gold purchase plans. The bulk of the world's gold lies in the "Old World" of Europe and with the WWII saviour, the USA. Countries elsewhere across the globe have either sold a lot of the gold they once had, such as the UK and Australia, or simply never had much in the first place. The latter includes Asia, the Middle East and, ironically, South America (which had a lot once but had it stolen). With the reserve currency threatening to continue into a long devaluation phase, gold is the perfect foil.

As long as you can buy some without moving the market too dramatically. China was able to do this by buying only domestically, and sellers were no doubt under pain of death not to divulge. India has now been able to do so as well because the IMF hasn't a decent load to sell off-market. But while conducted off-market, the 200t was sold to India over a two-week settlement period which ultimately achieved a price average of US$1045/oz – the market price required by the IMF for such transactions.

In the week ending October 23, Bloomberg reports, India's foreign exchange reserves increased by US$684m to US$285.5bn, including currency assets of $268.3bn and gold reserves of US$10.3bn. At 3.6%, India's gold ratio would appear to have more room to move. And that's just what some are speculating.

A senior Indian finance ministry official told the Wall Street Journal the RBI may seek to buy more gold from the IMF directly. "It makes sense to buy gold as it will appreciate against the US dollar," he said. But an economist noted that India had little need to enact a major rebalancing of its US dollar asset holdings given most of India's external debt is also denominated in dollars.

If India was going to buy more from the IMF, why did it stop at 200t? Is it because China, Russia, Brazil or anyone else might also be negotiating for the balance? The IMF will not comment. Either way, given India's move it is unlikely the remaining 203t will last long.

But GATA's Chris Powell will not rule out another motive for India's gold purchase, beyond that of simple foreign reserve diversification. It "must be suspected", suggests Powell, that India intends to use the gold in an emergency intervention into currency markets in order to prop up the US dollar or the rupee. The Indian rupee is partially pegged to the dollar, which brings with it inflation implications.

In such a case the RBI would directly sell into the market the gold it bought indirectly in the off-market, thus affecting the gold price and currency movements. But again we note that US$6.7bn is not exactly a staggering amount, as Powell previously noted.

So the world is more likely to assume India's purchase is part of a greater world-wide shift back towards gold as a storage of wealth. Indeed, the seventh greatest holder of gold in the world, one place ahead of Switzerland, is now "the world", at least as far as the SPDR gold exchange traded fund holdings represent. The popularity of gold ETFs has surged in recent times.

It's a gold rush.

By Andrew Nelson

While BHP's first-quarter report drew a mostly positive response from Australian analysts, most also noted that copper, nickel and diamond production were below expectations. However, iron ore production was at an all-time high of 30.1 million tonnes with the resumption of buying from Japanese and Korean steel mills adding to already increasing Chinese consumption.

Apart from iron ore, BHP reported that oil production was also stronger in the September quarter. In fact, total output was up 18% to 41.21m barrels of oil equivalent from a year ago and up 10% from the June quarter. Manganese and coking coal sales also improved, while the more troublesome metals to predict of late, aluminium and copper, were at least in-line with most estimates. The only real black spots were nickel, diamonds and thermal coal, which all came in a little under the market.

On the surface it sounds like a pretty good result and going though the headlines in today's press, there is much talk about a strong result, but this view centres on oil, iron ore and increasing demand expectations from China. But looking at the top-line reactions from the preponderance of Australia's major brokerages, and one could say the report was greeted with calculators and an accompanying yawn.

FNArena readers well know that we spend a lot of time at this news service digging though and distilling the bulk of Australian broker comment for publication in our subscriber only "Broker Call" section. After having a look at seven different broker reactions this morning, it is clear that no one has taken a truly negative view on the result, but nor can I find an analyst who is excited, or even impressed.

The most glowing comments this morning came from the team at Macquarie, who called the result "robust". The next best came from Citi, who labelled it "generally good". GSJBWere rated it "better than expectations", RBS said there were "no surprises", to JP Morgan it was "broadly in-line", while UBS rated it "mixed". Deutsche Bank proved uncooperative, refusing to label it with a one or two-word throw away, but thumbing though their report gives the impression they are in the "mixed" camp as well.

Part of the antipathy comes from BHP itself, with the world's largest miner less than upbeat about its prospects for the year ahead. Comments from the company were cautious regarding the possibility of commodities demand slowing after the recent run of buying, given there are now significantly higher than normal stockpiles sitting in almost all of BHP's major markets. And while management acknowledged that developed countries were stabilising after the recent economic crisis, unemployment in the US, Japan and Europe is still an issue, meaning there's still scarce bankable evidence of sustainable demand for metals emerging in the months ahead.

The are also many questions being asked about exactly how hard the rampaging Aussie will eventually impact, while the production problems being experience by Olympic Dam in South Australia are far from being quantified.

The importance of Olympic Dam can't be better outlined than by taking a look at copper production over the quarter. Total first-quarter copper production fell 8%, with output from Olympic dam falling 19% to a two-year low because of what BHP described as regular maintenance. But that was all wrapped up by October 6, when Olympic Dam lost three-quarters of its capacity for up to six months after the haulage system in the mine's main Clark shaft was damaged.

Sure, grinding mill problems at the giant Escondida mine in Chile were also a major issue behind the weak copper performance and yes, higher grades and repairs to the mill are now expected. All up, Escondida's production should be up between 5% to 10% this quarter, but at best this will only offset the lost production at Olympic Dam.

Let's not get bent all out of shape by the downside here, as even analysts from Deutsche Bank,who have a Hold on the stock and seemed to be the most ambivalent about the result, only reduced their FY10 earnings forecasts by 2%. The broker made no changes to its FY11 forecasts because of improved Escondida production forecasts, and better iron ore, coal and manganese production forecasts after the strong quarter these divisions just had.

While the economic commentary was far short of upbeat, analysts at Citi, who rate BHP a Buy, note that it was pretty consistent with what management has been saying for the last few months. Chinese demand remains robust, but the re-stocking complete, thus there's little visibility from here on out. Economic activity elsewhere is improving and we're starting to see the re-stocking of product pipelines, but said improvement is not without potential volatility. But then Citi's more upbeat on the economic outlook than many, and likes the balance sheet that BHP is working with, as it not only helps the company be its own master in terms of production growth, but also lends the ability to "build, buy or buyback" to leverage earnings.

Similarly, UBS, who also maintains a Buy post the result, is upbeat on the global economic outlook, which the analysts see as being directly correlated with the success of BHP. The broker recently lifted its growth expectations for Europe to 2.1% in 2010, noting we have already started to see the first signs of pickup in real end demand in autos and housing, while rising German Ifo and US durable goods are also good signs. UBS notes that metal demand tends to rebound sharply in the 6-18 months after a recessionary trough and by 18-24 months after the trough things are generally back to normal.

There is only one broker in the FNArena universe that has a negative stance on the stock, and that is JP Morgan. While the broker cites all of the above mentioned issues and doubts, the real reason for its Underweight call is simply valuation. Noting the stock is currently trading at 23.5x FY10E earnings and 1.5x the broker's valuation, it simply likes Rio Tinto ((RIO)) better.

All up, the broker that sums up the ho-hum reaction to BHP's quarterly result best is RBS Australia, who admits the numbers, overall, were pretty good. But given the recent strength in Chinese demand for iron ore and coal, the broker was hoping to see a production result that surprises to the upside. Unfortunately, it didn't pan out that way and RBS thinks the share price may come under a little pressure until investors get used to the still unsteady economic environment that all companies are operating in.

And that's where we are in the investment world today. Six months ago not as bad as feared was good for the share price. Three months ago in-line with expectations did the trick. But with PE ratios looking expensive on a one-year outlook, it's increasingly going to be better than hoped for that companies will need to report.

The FNArena sentiment indicator has a reading of 0.4 for BHP Billiton. That's made up of 4 Buys, 3 Holds and a sell (Underweight) from JP Morgan, where the analysts like Rio better. The average target price from these seven brokers is $41.35, which is 3.8% higher than yesterday's close at $39.83. Over the last year, the shares have traded between $20.00 – $39.85.