Gold companies in good stead as the Global Power Transition heats up

Market Mood

My goal with this column is to bring you, the private investor, underreported insights that may help you to profit from the present climate of economic uncertainty.

My early focus has been gold, and I want to wrap that up with an introduction to a much broader investment theme. I call this thematic the Global Power and Energy Transition.

This covers more than just battery minerals and the shift away from fossil fuels. It extends to the present geopolitical shift from Western-dominated trends and influences, to the rise of emerging market economies, like China and India, into a larger role across the three principal axes of power: Industrial power; financial power and military power.

Let’s start with a striking trend from central bank gold sales and purchases behaviour, Figure 1.

Gold has been back in fashion as a reserve asset ever since the Global Financial Crisis in 2008. The reason for this is likely the acute US dollar shortage that the GFC credit seizure created. The memory of this acute credit squeeze seems to have induced the central bank community to hold more gold.

What is de-dollarisation?

This effect is part of a general trend to downplay the role of US dollars in the global financial system. This has been termed “de-dollarisation”, meaning the gradual move towards to the use of currency other than the USD in global trade and the composition of central bank reserve assets.

The trend accelerated after the beginning of the Russia-Ukraine war when the Russian Central Bank had its assets frozen in Western central banks. They were also shut out of the SWIFT settlement system for cross-border payments in foreign currency. This had knock-on effects for other countries.

Whatever the geopolitical merits of such sanctions activity, the unilateral move by one part of the global financial system to cut out another part has led to rising distrust in emerging economies.

Those nations that feel they may be under potential threat of sanctions – which includes our allies such as India in the QUAD – have sought to strengthen their monetary stability. The common way to do this is not to dump US dollar reserves, which are still vital to international trade, but to step up bilateral trade in their own currencies. These include so-called minor currencies such as the Chinese Renminbi, CNY; the Indian Rupee, INR; the Brazilian Real, BRL; the Russian Ruble, RUB; the South African Rand, ZAR; and Middle Eastern currencies such as the Saudi Arabian Riyal, SAR and UAE Dirham, AED.

How fast is de-dollarisation happening?

One might think that the move away from the US dollar would happen quickly, however, examination of the data suggests this is not the case. The USD still dominates central bank reserves, Figure 2.

Clearly, the world is not in a blind panic to put US dollar hegemony in the rear-view mirror. That would be a misstatement of the Global Power Transition underway. For a more accurate view, we can dig into the rising share of central bank reserves under “other” currencies, Figure 3.

Clearly, the Chinese Renminbi is becoming more important, but that trend has waned a little since the start of the Russia-Ukraine war. The real action seems to be happening in a broad group of minor currencies that were considered too small to be reported in the IMF COFER data. Collectively, this group of minor currencies look set to pass the number four reserve currency, Pound Sterling, GBP, over the next five years. There is a financial power transition underway, but it is multipolar, and concentrated among a set of currencies that officialdom consider too small to warrant attention. This is the BRICS+ effect. 

Investment Opportunity

Undoubtedly, the US does control the global USD system of trade and finance. However, China has long since moved into a leadership position in global manufacturing. This means that China, and other emerging nations, such as India, have a huge role in the global system of trade in goods.

Presently, many believe that China faces structural decline due to poor demographics and the real estate crisis now playing out in real-time. While the jury is still out, I think that China will dodge a bullet due to its rapid progress in factory automation. This was a deliberate policy move in 2012. 

According to the World Robotics – Industrial Robots (2023) report, by the International Federation of Robotics (IFR), there were only five countries that accounted for 79 per cent of industrial robot deployments in 2023. These were China, Japan, the USA, the Republic of Korea and Germany. China accounted for a whopping 52 per cent of global installations and has been the largest industrial robot market since 2013. This process kicked off with the Twelfth Five Year Plan in 2011, via Made in China 2025.

Investors will need to deal with the consequences of these policies. China already dominates global manufacturing, and is now pushing the production frontier outward on volume, upward on quality, and downward on price. These are very powerful deflationary forces in the global economy.

Obviously, investors who position well in robotics and factory automation intelligent systems, ought to do well from this megatrend. However, we also think that selected emerging markets will perform well due to a rising middle class from onshore manufacturing jobs created by foreign investment. This is due to the saturation of Western consumer goods markets, which are now closing under protection measures, such as tariffs and sanctions. We all know that China grew off the back of demand for cheap manufactured goods, sometimes of dubious quality, sold into Western markets. The backlash from this has ushered in protectionist trade policies, which are inflationary forces in developed markets.

What a puzzle! Deflationary pressures on manufactured goods prices due to automation, combined with inflationary forces due to rising Western protectionism. The likely solution is that the automation nations: China, Japan, the USA, South Korea and Germany, have little choice but to expand production at home and in emerging markets, at lower prices to serve emerging market customers. The great untapped market is the half of world population in BRICS+ nations, and automation is the key.

Move for this mood

Let me now return to close this piece on the connection to gold – and gold stocks – as a defensive play on the likely tensions to play out in the tussle for control of global markets.

Global central banks are diversifying their reserve asset base into gold. They are also accumulating, at the margin, a steadily increasing reserve share of minor currencies. This process is slow, it could take fifty to a hundred years. However, the headroom for growth is clear when we look at the global share, by different metrics, for Developed Markets (DM), versus the Rest of the World (RoW), Figure 5.

For the RoW to develop, incomes need to grow, and that is a slow process. The good news is that robots are great at components manufacture, but final assembly and test remains labour intensive. This is why China, Japan, South Korea, and others are building new car plants, and other assembly operations, in low-cost destinations, such as Thailand, India, Vietnam, Indonesia, Brazil and Mexico.

There are plenty of investment opportunities with that theme. However, to close this series on gold stocks, I want to pick out that stark difference in gold production share. We may think of gold as the commodity of yesteryear, but you can see that the global GDP of gold is far and away dominated by emerging markets. This is in spite of the USA, Canada and Australia being comparatively large producers. Indeed, China and Russia are the number one and number two gold producers.

Note that China was not always the largest producer. This is a recent phenomenon that happened due to the use of more modern mining methods, better equipment, and higher quality geophysical surveys and exploration methods. This brings me to my final thematic: Emerging market gold producers.

In the list of S&P/ASX 200 gold producers, two stand out for emerging markets exposure to growing gold provinces. The first is Perseus Mining (ASX:PRU), with the Edikan mine in the Republic of Ghana and the Sissingué and Yaouré mines in the Republic of Cote d’Ivoire. Perseus has a long history of operating in West Africa, and these two nations are among the more stable jurisdictions. The other noteworthy producer is Emerald Resources (ASX:EMR), which brought the Okvau Gold Mine project in Cambodia into production. These two firms are among the leading players in ASX-listed producers that have a track record in emerging markets. There are others worthy of investigation, but these two names top my list. In my view, there will soon be more as Africa and Asia gain a following.

Disclosure: the author does not hold any current position in the stocks mentioned.

Disclaimer

This article contains information and educational content provided by Jevons Global Pty Ltd, a Corporate Authorised Representative (AR1250727) of BR Securities Australia Pty Ltd (ABN 92 168 734 530) which holds an Australian Financial Services License (AFSL 456663). The Market Herald does not operate under a financial services licence and relies on the exemption available under section 911A(2)(eb) of the Corporations Act 2001 (Cth) in respect of any advice given.

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