Thursday, December 31, 2009

Happy New Year

I want to wish everyone a Happy New Year as this one winds down. I started only recently, and appreciate you reading this blog as only a new-entrant can. My hand should become surer as time wears on.

For gold, it's been quite the happy old year. According to the blog "Gold Prices Today," the afternoon fix for gold on Dec. 31st, 2008, was $856.40. There was no afternoon fix this year, but spot gold has closed out at $1,096.50. That makes for a gain of $240.10, or 28.0%, during a tumultuous but exciting year for the metal. Gold did better than the Dow's 18.8% gain on the year, and the S&P's 23.5% gain.

It's now over. Undoubtedly, 2010 will bring more surprises, but now's the time to set all that aside (except for dedicated workaholics.) All the best for this eve.

Treasuries Prices Falling

As reported by the Wall Street Journal, the surprise drop in unemployment claims has pushed down prices for U.S. Treasuries. The U.S. dollar index has risen in that timeframe, and gold prices have dropped somewhat: as of the time of this post, spot gold's below $1,100 - specifially, at $1,097.80.

That's life in a recovery world, one where we see gold and Treasury prices falling in tandem.

A Case For U.S. Dollar Undervaluation

The case is made by Ivan Marchev in a Motley Fool article entitled "Why I'm Bullish on the Dollar;" it deals with the U.S. dollar/Euro relationship. His case is that the greenback is undervalued with respect to the Euro on a purchasing-power parity basis. Fair value on that ground, using German and American purchasing power levels, would be about US$1.25 for the Euro. Since the Euro makes up for about half of the U.S. dollar index, being bearish on the Euro is tantamount to being bullish on the greenback.

The implications for gold, he believes, are bullish long-term because his bear case for the Euro is based upon the need for the European Central Bank to keep inflating. On the other hand, he's short-term bearish on gold from a buying-opportunity perspective. He believes that gold would be a good value if it drops to US$1,000/oz, ane even more so if it drops to $900. He believes that a drop to the latter price is "possible if the turmoil on the Old Continent accelerates, and the euro drops to $1.25. Gold was below $900 in March, when the euro last traded at that level."

What he doesn't seem to realize is that a decline of that magnitude, in percentage terms, would match the financial-crisis decline from February 2008 to November of that year. Without a similar crisis, I don't see gold falling by that much.

Gold's recent troubles are the subject of a brief Seeking Alpha write-up by statistician workhorse Bespoke Investment Group. The article notes that, after gold broke below its 50-day moving average in mid-December, it's had trouble rallying above that average.

"Fun Fact" From

As reported on their Website, sales of U.S. mint products over the Christmas week were disappointing...with two exceptions: 1 oz gold and 1 oz silver Eagles.

A Portent: Value Investor Goes For Gold

As reported by Forbes magazine, noted value investor Jean-Marie Eveillard has gone for gold in a big way. What makes this portentous is the fact that gold is not exactly a value investment. As gold skeptics never tire of pointing out, gold does not generate a return. There's no cash flow, no dividends, no earnings from a hunk of gold. Moreover, gold underperforms stocks in the very long term. Forbes columnist William Baldwin makes both these points. Gold mining stocks do generate returns, but only when the companies' proceeds are sufficiently above all their costs to do so. Even if gold goes up, a cost squeeze can make for losses. Suffice it to say that gold miners are cyclicals, and their earnings are volatile.

Eveillard is frank about his reasons. The funds he's a senior advisor to, except for one that's a pure gold fund, have "insurance" levels of gold in their portfolio. They're using gold for hedging purposes, not because of any bullish call. He himself recommends that investors only put 5-10% of their holdings into gold, and pegs 10% as a good maximal insurance level for a fund. Beyond that 10%, a manager begins to speculate on gold's rise.

One of the abiding characteristics of value investors is that they're in it for the duration. They buy on the assumption that an investment they hold will be held for years, as it will take that long for the market to revalue it properly. Every value investor knows that gold generates no return, and that every dollar spent on gold is a dollar that can't be put into a company that does generate returns. Deciding to hobble one's portfolio with a no-cash-flow investment for insurance purposes, means that one has decided that the insurance is worth paying for. In Eveillard's case, he's betting that the Fed has (yet again) erred on the side of too much easing.

That conclusion is one that gold bulls will nod at, and probably like. However, value investors have a track record of buying too soon relative to their calls. More than a few were buying stocks with both hands in October-November of 2008, because the valuations were compelling at that time. Many of them got temporarily blindsided in February and March of this year, when the valuations became even more compelling. As is often the case in the value-investing world, their judgement was vindicated in the end...but the ride was bumpy in the interim.

Given this habit, it's safe to say that what M. Eveillard expects re reflation will take a few (or several) years to come to fruition. It's also safe to say that he's early in expecting the effects of over-reflation to kick in. Gold enthusiasts, please take note: when value investors are on your side, it means that the long-term story comps out, but...

...they buy too soon.

After Dip, Gold Climbs Back Above $1100

Yesterday, gold made what chartists call a "double bottom." A spike downwards just after 10 AM ET ended almost exactly at US$1,085/oz. Right after reaching that level, it reversed and settled into a trading range just above $1,090. That range was climbed up from last night and early this morning; gold made it above $1,100 at about 2 AM ET. As of the time of this post, spot gold's at $1,102.00

This Wall Street Journal Online article credits the rise to a somewhat weaker U.S. dollar and rising crude oil prices; gold tends to be positively correlated with the latter. A Bloomberg story webbed today looks at gold's rise over the entire year: the metal's clocked in a greater than 25% annual gain, a period that includes this month's plummet. This is the ninth straight year that gold's had an annual gain. The three experts all quoted in the article, unusually for now, were all strongly bullish for 2010.

"Whither the greenback?" That is the question, in the minds of bears as well as bulls; in the minds of the nervous as well as the enthusiastic. In essence, chart-watching is a search for regularities and precedents. The reason why chart-reading fails from time to time is that new conditions intrude. Look at this weekly chart for the U.S. dollar index:

A basic reading of the thing reveals a five-week uptrend from a bottom that was higher than the early-2008 low. Despite the plummet in early December '08, the greenback made a higher high at the beginning of March '09 than at mid-November '08. The moving averages - the red and blue lines - are not acting consistently with a new bull market, 'tis true, but the red and black lines in the graph below the price chart (the MACD lines) are. The RSI line above the price chart is in the middle range, suggesting that the greenback is not overbought at this time.

I'll admit that the above chart is ambiguous, as is the daily chart, but, prima facie, the trend looks bullish for the greenback. In and of itself, that trend doesn't imply a bear market for gold even if followed through upon. Gold was at least 10% lower when the U.S. dollar hits its lower bottom in March of '08; the difference resulted from gold rising in terms of other currencies too. However, a rising U.S. dollar does hobble any resumption of a gold uptrend: the '08 greenback spurt-up accompanied a near-30% decline in the U.S. dollar price of the metal. (Gold bottomed at slightly over $700/oz in November of 2008.)

I'm not predicting a similar move, which would take gold down to the $900 region. The last plunge was in the face of panic buying of the greenback due to the financial crisis. Unless another one's in the offing - a deflationary financial crisis - the U.S. dollar won't act in the same way as it did in '08, and gold won't suffer as it did in '08. The current upturn in the greenback is predicated on recovery, which will not induce panic buying except for a once-only unwinding of the U.S. dollar carry trade. That unwinding may have already taken place.

I merely make these points to suggest that it's not very likely that gold will rocket upwards in early '10. The reasons given by gold bulls take some time to have their impact.

Wednesday, December 30, 2009

The Future of Gold, From Two Bloggers

The gold market has entered the radar screen of Lila Rajiva, a libertarian writer more concerned with propaganda and the intersection of war and statism. Some time ago, she co-wrote a book on markets with goldbug mainstay Bill Bonner.

From a statement from Martin Feldstein, she interprets that there'll be a "concerted effort to push the gold prices lower..."

Another blogger, one closer to the thick of the markets, has publicly wondered: "Can Gold be the Next Currency?" An agnostic on the question, he nevertheless passes on the opinion of two hedge-fund managers who believe so.

Myself, I think the gold-as-future-currency is the "New Era story" that's going to be pushing gold into a real bubble. I explain why in an Enter Stage Right article that ended up being the inspiration for, or "version 0.1" of, this blog.

Interview With A Gold Fund Manager

The manager in question is Margot Naudie, who manages the TD Precious Metals Fund. Although it's returned 101% over the past 12 months, and has an average annual gain of 16.6% over the past five years, it only holds C$226 million. Her reflections on gold have been webbed by the Globe and Mail.

Two points of note: she says that she averages up when a gold company works out, and also says that gold miners haven't had a great record when it comes to free cash flow and dividends. As it turns out, a lot of the supposed gold-stock leverage has been eaten up by rising costs (particularly, high energy costs.)

Barrick Gold-Hedge Close Makes Deal-Of-The-Year List

It's the first of "The Best" in the Globe and Mail's annual "Deals of the Year" list:
For years, investment banks earned sweet fees for running Barrick Gold's massive hedge book. Then gold went on a tear, and hedged production became a millstone for newly minted CEO Aaron Regent. So those same investment banks proposed a massive stock sale to raise cash that would close out the hedges.

Mr. Regent, to his credit, put the dealers' feet to the fire. By pushing for the largest bought deal in Canadian history, a $3.5-billion financing, the CEO shifted the considerable risks of this deal to the brokerage houses.

Without blinking, the Street went all in, as the bankers believed an unhedged Barrick would find all kinds of buyers. They were right. Huge global demand for the world's biggest bullion play meant Barrick ended up selling $4-billion of stock....

Great for the investment bankers responsible, even though the move came almost right at the top of the market. There's an old trader's rule that says if a mjaor holdout "capitulates," then a top has been reached. Barrick deciding to end its hedging and tie its revenue to the gold price, ending more than a decade of hedges, counts as a capitulation.

Of course, calling Barrick "dumb" for doing so isn't exactly warranted. The company sold stock to close the book, pushing the price up by almost 8% on the announcement day. The stock's pulled back since then, but not by much.

Gold slides down again

This time, in the overnight markets. Spot gold dipped to slightly below $1,090 at about 3:30 AM ET, and then established a trading range. As of the time of this post, it's at $1,90.30

This Bloomberg report attributed the drop to a rise in the U.S. dollar, which rose on recovery hopes. It quote an analyst who's surprisingly bearish short-term, given that he's a long-term bull:
“Gold may fall to $900 before investors and the public at large try to buy and hold the market,” said Bernard Sin, head of currency and metals trading at bullion-refiner MKS Finance SA in Geneva. “I am dollar bullish because I believe the U.S. economy can grow.”... Safe-haven demand will probably help gold in 2010, pushing it as high as $1,300, Sin [also] said.
Another analyst was quoted, and was also short-term bearish.

The previous optimism, spurred by central-bank purchases, keeps fading. Despite the gloom, gold has passed into stronger hands. The SPDR Gold ETF [GLD] reported that its holdings increased slightly. And, the U.S. Mint's supply of fractional Gold Eagle bullion coins has sold out.

Also of note: even at today's more modest prices, the Indian central bank is still up on the 200 tons it bought. According to a report webbed at the time, the central bank's average buy price was $1,045/oz.

Tuesday, December 29, 2009

Data Released, Gold Drops...

It's become a familiar routine: good U.S. economic data gets released and gold gets driven down. As of about 9:30 AM ET, the same script was followed; spot gold was driven down from about US$1105/oz to about $1097.

Only this time, the drop mostly reversed. The reversal came shortly before U.S. consumer-confidence data was released, and has held gold above $1,100. This, despite the fact that the U.S. dollar has pared its losses in consequence.

Is the economic-data gold bear trade going sour? We'll see.

Update: Not as yet, though it was close. After reaching about $1,104, gold turned back down right after 11 AM ET and slid down to a little over $1,095 just before noon ET. A rally in the U.S. dollar was behind it. Since that re-drop, it's been drifting somewhat below $1,110. As of the time of this update, spot gold's at $1,096.80.

Useful gold primer at Investopedia

The article, "A Look Back On Gold" by Sham Gad, contains a to-the-point primer on what makes gold prices rise. Essentially, a bet on gold is "a bet against current monetary systems." It's well worth a read.

Gad's background is interesting, given what he's written. He's a value investor by trade, not a goldbug; his blog shows it.

Inflation Uncertainty

Over at Seeking Alpha, Daryl Mongomery has penned a critique of U.S. inflation statistics entitled "U.S. Inflation Reports: Contradictions and Absurdities." He starts off by noting two disconnects between the latest PPI and CPI figures, in the areas of autos and food. The nub of his critique is that two new techniques - substitution effects and hedonic adjustments - both keep the inflation rate down, even if they imply opposite conclusions utility-wise. He concludes by saying that market prices, such as the price of gold, are better gauges of what're really happening to U.S. prices.

Along that line, economist John Williams has an entire service devoted to alternate measures of economic data; it's called Shadow Government Statistics, or ShadowStats. On the homepage, Williams has a graph of U.S. inflation using the pre-Clinton (pre-adjustments) CPI measures. The graph shows inflation's pre-crisis low as slightly less than 4%, in 2002, and a high of 9% in early 2008. Currently, the pre-Clinton CPI measure has inflation at around 5%. The same measure shows the crisis low at about +1%. Had the old CPI still been used, there wouldn't have been any reported deflation at all.

From a stable-prices perspective, Williams' proprietary SGS Alternate measure is worse. It shows the U.S. enduring double-digit inflation in early 2008, and a crisis low that never got below +5%:

Chart of U.S. Consumer Inflation (CPI)

Saying that the U.S. government is cooking the inflation books makes a contentious claim, to be sure. What side you're on depends upon how venal - or desperate - you think U.S. government financial officials are. The benefits to the U.S. government from down-decking the inflation numbers are threefold: a) lower cost-of-living payment adjustments on inflation-adjusted transfer payments like Social Security, plus lower COLAs in general; b) lower tax-bracket adjustments; and... c) lower rates on Treasury securities, as lower inflation numbers make a specified nominal rate imply a higher real rate. Lower inflation numbers mean a lower inflation premium.

I should say that the same threefold benefits apply to not overstating inflation, too. Needless to say, the U.S. government and those who see the inflation picture the government's way believe that the new inflation numbers are more accurate than the old. The benefit to the government, in their eyes, is eliminating overpayments and too-low tax collections.

Uncertainty Over Gold

A long Commodity Online article by David Lew, featuring commentary by market letter writer Howard Katz, digs into the thesis that speculators have driven the gold price higher. Using demand data from the third quarter, and the still-high net long non-commercial open interest for gold futures contracts, the article concludes that speculation was the reason. Although open to the possibility that gold will continue rallying, it contains these paragraph after going in to speculators' open interest:
An important factor is that under present economic circumstances, there is less money with which to buy jewelry or to invest in commodities, gold included. This is reflected in the low level of demand in the latest reports.... Demand for jewelry which usually represents about 70% of demand for gold was down 32% in the latest reported quarter (third quarter of 2009).

The gold price could potentially fall to near $500 in a relatively short time. As an example, after gold rose sharply in 1979-1980 to $850 it was followed by a drop to near $500 in less than 2 months. It will not be surprising to see the gold price take a similar loss in a short time.
Katz is less bearish than uncertain. He also holds up the possibility of gold going to $1,500/oz or $2,000/oz if U.S. dollar weakness continues. One possibility not mentioned is gold staying about where it is.

Along this line is a point/counterpoing write-up webbed by the Sydney Morning Herald. The first expert quoted, Evans and Partners analyst Cathy Moises, has a bit of an unusual call: short-term neutral, long-term bearish. Her call is based upon gold as a crisis hedge, and a forecast that recovery is in place. As fears ease, so will the attractiveness of gold. Three other experts quoted in the report think that gold will rise next year, with the U.S.' fiscal position and Asian demand for gold cited as reasons for the bull market to continue. Interestingly, all four expect a trading range in the near term.

A report webbed by iAfrica quotes a different analyst which concurs with Katz's conclusion that speculation drive the price up in November, for similar reasons. However, the Resource Capital Research report analyst quoted forecasts a trading range between US$1,000 and $1,100/oz.

Speaking of demand: this report from the Israeli Diamond Industry news portal has this to say about Chinese jewelry/physical gold demand:
China Daily reports that gold jewelry sales soared by over 30% during the past weekend in Beijing, with bargain shoppers heading for the city's major jewelry stores to take advantage of end of the year promotions....
I haven't seen any indication that the demand surge has been duplicated in India, however.

All in all, a picture that shows real uncertainty about gold's fate. The November run-up, and December run-down, have shaken more than a few analysts and left a lot of caution in its wake. The big near-term variable is the U.S. dollar, which took a lot of people by surprise when it surged up this month.

Gold Slightly Down Despite U.S. Dollar

As reported by a Bloomberg story, gold dropped slightly overnight. The reason given was speculation that the U.S. dollar will appreciate. However, the U.S. dollar itself is beginning to slump. That pullback has been attributed to profit-taking, and to strength in the stock market.

A Reuters report gives a different take. It presents the recent strength of the greenback as the result of a short squeeze.
There is also an indication that excessive long positions in gold futures have somewhat been cleared while many dollar short positions have also been covered, paving the way for gold to test new highs early in 2010, said Koichiro Kamei, managing director at financial research firm Market Strategy Institute.

"The dollar's recent firmness was partly due to the covering of excessive short dollar positions, and that adjustments seem to be coming to an end," he said.

"Gold's correction may also be over, and talk of central bank buying will again be the main driver for gold to rally. News of fresh central bank buying would likely trigger a rally to new record high prices for bullion," Kamei said.

The U.S. dollar is still the main driver of gold as of now. A blip-up in the U.S. Dollar index triggered a 12-dollar/oz sell-off, from which the gold market partially recovered in afternoon trading. As I write this post, spot gold's largely unchanged at $1,104.70.

Monday, December 28, 2009

Seeking Alpha Article Shows Nouriel Roubini Is Gold Bulls' "The Man To Beat"

Life is sometimes unfair, particularly for those who've stuck their neck out. It's becoming clear that Nouriel Roubini, despite his judiciousness about the gold market, is becoming Goldbug Enemy #1. That's because the followers in his wake tend to seize upon his contention that "gold has no intrinsic value;" in their glee, they chuck out the nuance in his own analyses.

Gold, in fact, does have an intrinsic value (in the ordinary sense of the term.) It's a status good. The gold-is-money argumenters, who often follow in the wake of Aristotle, presuppose this intrinsic value. That explains why gold's been a precious metal for about as long as there's been war.

In a calmer world, Roubini would just be kidded about his contention. But not in this world. Case in point, courtesy of J.S. Kim at Seeking Alpha:
Roubini claims that gold has no intrinsic value. If we look up the definition for intrinsic, this is what we find: “Of or relating to the essential nature of a thing.” The fact that people are willing to pay more than $1,000 an ounce for gold, by definition, grants gold intrinsic value. The fact that people value gold as an attractive adornment in the form of jewelry and are willing to pay top dollar for gold jewelry, by definition, grants gold an intrinsic value. If gold had no intrinsic value then why do people offer top dollar for it?

I wonder if Roubini is married, and if he is, if he bought his then fiancĂ©e a diamond ring? Using the flawed “intrinsic value” argument, if gold has no intrinsic value, then surely diamonds have zero intrinsic value as well. And if so, then why do so many people that accept the flawed “gold has no intrinsic value” argument willingly buy diamonds? Of course, the answer is that both gold and diamonds DO have intrinsic value as indicated by the willingness of people to pay loads of money for these commodities, whether in raw or processed form.
There it is, although Kim doesn't explicitly mention "status good."

If gold does go into an all-out bubble, Roubini may be turned on. Permabears like he are only loved by other permabears. In the middle of a crisis, they get their moment in the sun and are often idolized for being right when almost no-one else is. When crisis hits, the "stopped clock" is the only clock to tell the time accurately. As the crisis fades, though, the adulation also fades and people begin to ask, "what have you done for me lately?" Later, "Mr. Bull's put my portfolio up X%. Why haven't you?"

In Roubini's case, his competition is Peter Schiff. Both forewarned, and both proved to be right when few others were. The fate of gold is going to determine which of the two will be "the last permabear standing," as Schiff is a gold bull and Roubini (of course) isn't.

Will Schiff wind up being "so last year," or will Roubini? We'll see in 2010, and it will be gold that tells us.

Gold And The Central Banks, 2009

The Times of London Online has webbed an article about the shift in the tide for central banks - specifically, emerging-market central banks.
There is little to beat the lure of gold, as many recipients of a lavish Christmas gift will confirm, but it is not only seasonal impetus that has put a new shine on the precious metal — for the first time in 21 years the world’s central banks have been net buyers.

World Gold Council (WGC) data reveals that amid growing concern over the weakness of the dollar, about $28 billion of bullion was bought by central banks this year, based on an average price of $978 an ounce....
Traditionally, the central banks have been the butt of goldbug jokes - particularly, the developed-countries' central banks. Gordon Brown's served as the resident fool for selling some of the U.K.'s gold into the "Brown bottom." Those who like to believe that the developed countries' central banks are as ham-handed as ever, will be pleased to learn that the central banks of France, Sweden and the Netherlands have sold some gold this year. Not to mention the IMF.

However, emerging-economy central banks aren't exactly converted to the new way of gold. As this Wall Street Journal Online article reports, most of the diversification out of the greenback went into the euro.

Gold's Still Holding

As the long weekend fades into the last trading week of 2009, gold has held above US$1,100/oz. As I write this post, spot gold's up to $1,108.40. The U.S. dollar's remarkable run-up seems exhausted, and this month's plummet in gold seems to have passed. This Reuters report quotes an unnamed Japnanese trading company manager as saying, '"Physical trade is slow, but there is general caution over volatility in the metal's prices in a seasonally thinned-out market toward the year-end."'

Another pundit has stepped up to the plate on the gold-bubble issue. David Olive of the Toronto Star repeats the gold-skeptic arguments faithfully, and quotes Nouriel Roubini copiously. A gold skeptic himself, his piece has the air of someone who wishes goldbugs would just crawl back in their hole.

This fellow's a little different from someone who thinks that gold's in a bubble because its rise has outstripped fundamentals. As I've written before, and will in all likelihood write again, gold is the asset class that (by far) elicits the most emotions. This holds true in both camps. Whatever can be said about Mr. Olive, he has stuck his neck out. Some may consider him brave for doing so.

However, his boldness should be taken as a sign that the gold bubble hasn't really gotten going yet. Pundits in the popular press don't Galbraith it up when a real bubble is climaxing. Too many of their witty like-minded colleagues have been turned into jokes at that point, and too many full-throated bulls are around to shout any skeptic down. This confluence is true of all bubbles. How many dared to call a top in Internet shares in late 1999? Of those, how many were mealy-mouthed about it? To the best of my knowledge, the answers to these questions are "very few" and "all of them."

For Mr. Olive to be right, gold has to fail to enter an all-out bubble. The November-December "mini-bubble" has to be it for the metal. He (and his quoted expert Nouriel Roubini) may be right, but the deflationist scenario has to kick in for they to be so.

Of course, I myself might be wrong in expecting a full-fledged bubble. Gold may pause for a while and start meandering up or sideways without any real conviction. 2010 might be the Year of the Trading Range for gold. In that case, the title of this blog would look a little, er, detached from reality. This action would be consistent with the muddle-through scenario, where inflationary and deflationary forces largely cancel each other out except for a mild inflationary bias. Should this case prevail, goldbugs may be happy to crawl back to the sub-basement and wait it out.

Saturday, December 26, 2009

The Inflation/Deflation Debate At Financial Sense Newshour

The first holiday-rerun installment of the Financial Sense Newshour focused on the inflation/deflation debate. All the participants were able exponents of their views, and the entire podcast is well worth listening to if you have time. [Note: The link to the Daniel Amerman/'Mish' Shedlock debate on the main page isn't active; a copy of the .MP3 file for the debate is here.]

What struck me about the debate was that each side claimed that history was on theirs. The deflationists said that there has never been a popped-bubble economy that has not led to a wholesale destruction of credit. Moreover, no bubble-economy-popping credit crisis has not led to a long-term drop in credit. Lenders always become more reluctant to lend, and borrowers always become more reluctant to borrow. Both the supply of credit and the demand for credit shrivel over time. There is never a short-term pause followed by a resumption of the credit spree. The popping of the bubble economy is too shocking, and its scope too wide, for the old attitudes to remain intact. What was prudent becomes risky, and what was normal becomes foolhardy. Since the bulk of the money supply is credit in our fiat system, this turn of the debt-tide means deflation is built into the monetary system. The central bank cannot inflate by itself; it can only increase the bank-reserves monetary base. It need the co-operation of the banks and their borrowers to expand credit to turn the monetary base into real money. Bank reserves are not spendable currency: they have to be used as the base of newly-created credit to expand the money supply. [If you need to, see this Wikipedia primer on money creation through the fractional-reserve system.] If both lenders and borrowers are refractory because they've been badly burned, then bank-reserve expansion will not lead to money-supply increases. The central bank will be "pushing on a string." The deflationists argue that the ballooning of excess reserves in the Federal Reserve system is proof that string-pushing is upon us, and that the credit system is maimed to the point where it cannot be counted on to inflate the economy out of its current difficulties. The U.S. is stuck in the same hole that Japan has been in for the last twenty years. Japan has had mild deflation during some of that timeframe, even though Japan's currency is not gold-backed.

The inflationists contend that history is on their side too, because every fiat currency is eventually inflated away. Since there is no gold brake on a fiat currency, there is no counteractionary impediment to the government inflating at will. The only brake is the pain of inflation itself, which tends only to be felt during an all-out inflation crisis. This license holds true particularly when there's widespread economic pain with little inflation on the horizon. Then the government has a lot of incentive to inflate and almost no (immediate) disincentive to do so. There's only one exception to the rule of "fiat money = inflation," and that's the above-mentioned Japan. Even in Japan, the deflation was mild and only intermittent. Moreover, deflation only took root at all because Japan is a creditor nation. Inflation is bad for creditors, because it depreciates the dollars received when the loans come due. As a creditor nation, one where creditors' viewpoints tend to prevail, Japan went with (what essentially was) price stability. On the other hand, the United States is a debtor nation. There has never been a case where a debtor nation with a fiat currency permitted even the slightest burst of deflation, except by accident, and there has never been a serious deflation in any nation with a fiat currency.

Thus, the deflationists concludes that all the relevant lessons of history point to deflation as the U.S.' fate. The inflationists conclude the exact opposite.

Evidently, the web of history has its tangles. I can say that both sides' appeals to history are solid.

Believe it or not, this leaves a wide path open for the incurable optimist. All it takes is defining each position as an "extreme," noting that they're opposing extremes, and express faith in the great American principle of moderation. The leadership, well-intentioned if not always wise or alert, will deploy pragmatic skill to sail the Ship of State between the shoals of both extremes and get the American economy moving again once the dust settles. Just wait and see; it'll be A-OK in a few years. You betcha.

The trouble is, the Pollyannas have a point. When crises hit, we look to extremes because they make sense and aren't mealy-mouthed. Normal moderation looks like temporizing. In addition, when an unexpected disaster hits, at least some of the so-called "extremists" were the ones who foresaw it coming. Optimists are discredited. It's this brew that inclines us to believe that moderation is counter-productive, even obsolete. We have a need to believe that it's one way or the other, that the normal slack that makes moderation work is gone.

Crisis there was, but there's no evidence that a muddle-through option isn't possible. The muddle-through position, unlike the eternal-sunshine stance, does acknowledge that the economic wreckage will have long-term aftereffects. But, it also notes that the two "inevitable" forces of catastrophic deflation and economy-eroding inflation, at least apparently, cancel each other out. If the Federal Reserve is sufficiently skilled, it should be able to navigate the economy through the coming tough stretch without either catastrophes erupting. Because the money-and-credit system is hobbled, it won't be an easy task. The Fed is likely to cause more economic volatility, that being the main aftereffect of the credit collapse. Unemployment is likely to be high, and recovery tepid, because the economy is still bent out of shape. However, a sustained period of muddle-through, one where pragmatism rules and empiricism takes the place of theory, is likely to get the U.S. economy through without damaging it permanently. There will be more high-growth decades. This next one won't be one of them, but muddling through has the promise of making the one after next return to solid prosperity.

I presented the above case because it hasn't really been made, and it does provide a counter-balance to both inflationists and deflationists.

My own opinion in the matter - which is influenced by my own priorities; I do have money in a single gold stock - is somewhere between the inflationistas and the muddle-through'ers. As this Stockhouse columnist points out, we're in one of those times when the U.S. government can borrow at negative real interest rates. As long as the U.S. Treasury can, it can benefit from inflation. Note that real T-rates fell to negative despite foreign governments' large holding of U.S. Treasury securities. Those much-feared foreign holders have not provided much of a deterrent.

Nor have the much-fabled "bond vigilantes" of the '80s. That's because today's markets are very different from those of the '80s. Twenty-five years ago, many bond buyers still remembered the near-thirty-year bear market in bonds. The three-year rally, strong as it was, could have been (and sometimes was) called a sharp bear-market rally. Lots of people still believed that inflation had merely gone dormant, and was waiting to surge back up to double-digits. Inflationism died hard in the '80s - including amongst long-suffering bond investors. Naturally, they demanded an extra inflation premium and remained quick on the sell trigger. That's how the "bond market vigilantes" sent the message that inflation was counterproductive.

In addition, the stock market provided a lot more competition for capital back then. In a long-term bull market in stocks, why buy bonds unless they're going up too? Safety? Given a thirty-year bear market? Not unless there's an added risk premium! This competition for capital also helped push up the real return on Treasuries, and sent the U.S. government the message that inflation would hurt them too.

Today's markets are far, far removed from the markets where the bond vigilantes thrived. Instead of the looming shadow of a recently-ended bond bear market, there's the cheery backdrop of a twenty-eight-year bull market. Bonds have outperformed stocks this last decade, even though inflation did pop up before the credit crisis erupted. Stocks, on the other hand, have gone nowhere this last decade. The fears and uncertainties that made the bond vigilantes vigilant back then, are gone. Instead, there's largely complacency.

What if foreigners, disgusted with the U.S. dollar dropping, decide to unload Treasury paper? There's an already-discussed contingency that can be deployed in such an emergency: commandeering U.S. pension assets to replace those foreign holders. Forcing pension plans to invest some money in U.S. government paper can even be pushed as a for-your-own-good measure, given the recent stock market collapse. As long as foreign unloading hurts the stock market more than the bond market, the feds can for-you-own-good as much as they please.

More immediately, the feds can lean on the banks to get the credit machine rolling again. The string can be stiffened up. We're already beginning to see some talk towards this end from both Congress and the Obama Administration. Credit stinginess looks prudent when GDP's still dropping like a stone. When GDP turns up, especially if the up-turn's sustained, then stinginess looks obstinate. It could be argued that last quarter's 2.2% GDP growth was a mere blip. If the fourth quarter's number is positive as well, though, there'll be a lot less reason for credit shrinkage on the supply side. If deflation fades as last year's worry, the demand for credit will pick up too.

For the above reasons - most particularly, the re-emergence of an inflation seignorage in U.S. Treasuries, the fading of widespread deflation fears, and the complacency of the bond market - I think inflation's on the horizon. I'm not a full inflationist, because a serious bout of inflation will hit the U.S. Treasury hard once the bond market cottons on to it. The U.S. Treasury needs relatively low nominal rates, given its huge borrowings, because high rates would be a budget-buster. Going all-out down the inflation road will bring back those high rates. However, intermittent spurts of inflation can be explained as the aftereffects of the credit crisis. And the 1930s can be brought up again...

Thursday, December 24, 2009

Gold closes above $1100 pre-holiday

It's not much of a Santa Claus gift, but it was one given gold's December debacle. After dipping down to about US$1,097 at about 8:45 AM ET, gold reversed course and drifted back up for the rest of the day. Going into the Christmas Day holiday, and ending the year's second-last trading week, spot gold closed at $1,105.20.

Speaking of holidays: I hope yours is full of cheer. Happy Christmas, Merry Holidays, whatever suits you. Thankfully, things aren't bureaucratized to the point where I'd have to wish everyone a "Happy Statutory Holiday."

And, thanks for reading this blog. I can assure you, it's appreciated.

A clever gold-bull argument

It's by Andrew Mickey of Q1 publishing. After noting that Citibank has claimed there's little link between the gold price and the inflation rate, he concedes that they're not far wrong. But, he comes up with a more closely correlative metric: real U.S. interest rates. Gold bull markets, or bull trends, flower when real rates are negative.

No wonder why he entitled his piece "'Real' reason it's still too early to bet against gold.'" Currently, real rates are negative.

A Quick Pre-Holiday Point

In the ordinary sense of the term, gold has intrinsic a status good.

[This point made courtesy of "Captain Obvious."]

Minyanville's Przemyslaw Radomski Suggests Buying Opportunity

His case centers around technical indicators, but he opens his article with a hat-tip to the Rothschilds - specifically, to Bank Edmond de Rothschild. Its analysts think it likely that gold will go up this year.

Also related to the bull case is a Commodity Online article by David Lew, headlined "Can China beat US in gold reserves in 10 years?" The bulk of it is a fact sheet on China's gold industry.

An Undeterred Gold Bull

Gold analyst Jeff Nichols seems undeterred by the December drop, as this opener to a Mineweb piece makes clear:
Gold has enjoyed a long and enviable climb, rising some 380 percent from a cyclical low near $255 an ounce in April 2001 to an all-time high just over $1,225 early this month. Nevertheless, the bull market in gold has a long way to go - both in magnitude and direction.

Looking ahead to 2010, don't be surprised to see gold trade at $1,500 or higher sometime during the New Year. And that's not all: I've been telling clients that the yellow metal's price will continue its long-term upswing for at least a few more years, very likely reaching $2,000 an ounce . . . and possibly hitting $3,000 or more before the gold price cycle begins its next long-term cyclical "bear" phase.

One point that can be taken from his piece is the much-feared Fed rate hike may not be as bad for gold as has been assumed. In his words: "As long as the rise in U.S. inflation outpaces each incremental increase in nominal interest rates - so that real interest rates remain near zero or in negative territory - monetary policy will be too accommodative and impotent to stem the rising tide of inflation."

A Developing Feud

As reported in Commodity Online, gold bull Jim Rogers has taken umbrage at Nouriel Roubini's bearish assessment of the metal:
The differences of opinion on gold forecast by Jim Rogers and Nouriel Roubini are turning sharp and deep. Global commodities investor Rogers has once again lambasted Roubini for predicting that gold price is on a bubble that will burst soon.

“I am flabbergasted at Roubini’s comment about bubbles because there is not a single market in the world making all-time highs except gold, US Government Bonds, Cocoa, and the Sri Lankan stock market. That’s hardly reason to call for a bubble. So, I am most perplexed about this alleged bubble which is out there,” Rogers, who is now settled in Singapore and an aggressive investor in Chinese agri commodities market, told Wall Street Cheat Sheet....

If only gold were more like stocks! Other investment classes lend themselves well to emotion, but gold is unique when it comes to emotional attachment or aversion. Goldbugs insist that gold is money, even though it's hardly used for barter, and gold skeptics insist that gold has no intrinsic value, in defiance of every price chart for the metal. [In technical economics, it's axiomatic that no specific good has intrinsic value, as all values for specific goods are held to be subjective. That's not what the gold skeptics mean by "intrinsic," though.]

With stands so diametrically opposed, and with each position so at odds with the facts on the ground, it's no wonder why so many arguments flash up between the two sides. The only parallel in the stock market is with high-flying stocks that have sparse earnings records. Bashers of these stocks "hate money," "hate growth" and are "down on everything." Promoters of these stocks are "not living in the real world," "nut jobs" and "crooks."

One wrinkle: in the high-flying stock arena, the two sides often moralize at each other. In the gold arena, we see politicizing.

This blog isn't intended to be an investment-advice blog, in part because I'm not qualified to be an investment advisor. However, I can offer this para-investment advice based upon the above: one of the most difficult skills to master in gold investing is emotional control. It's a rare bird that can see gold as just another asset class, which moves to a somewhat unique drum. Gold produces no return, and is primarily used as either a luxury item or an investment tool; it lacks the ties to the regular economy that industrial commodities have. Even silver has those ties. Because of those two lacks, there are no everyday, non-controversial metrics that can be used to assess gold's value. The "valuation gap" tends to be filled by emotions.

Emotionality does tend to spill over into gold stocks, making for more volatility. Emotional control can pay off by selecting better entry and exit points, or accumulation points for steady buyers.

As far as gold-exploration stocks are concerned, there's an entirely different emotionality in play. Have you ever dreamed of being a merchant-adventurer? Gold exploration stocks hook in to that dream. Finding and building a mine is risky, particularly at the financing stage, which keeps gold-exploration stocks low. Except in the scarce instances when the property values are so compelling that the stock's pushed up near done-deal level, exploration stocks with viable properties are typically penny stocks. One of the earmarks of an all-out bubble is many exploration stocks selling at done-deal levels, with an associated faith that a good (validated) property is a "sure thing" because "the banks are killing each other to lend." Yep, one of the earmarks of a big bubble is seeing lenders as the holders of a money-cornucopia. Remember U.S. real estate in 2005?

That's when many people lose it, getting "stuck on cornucopia" when the bubble finally bursts. We can't reboot our brains.

From a trading (or even accumulating) standpoint, these emotionalities are costly and sometimes dangerous. Sadly, there seems to be no way to get around them except though being burned. Happily, though, it may not be necessary to be scorched by an all-out bubble-and-collapse to pick up the habit. The recent "mini-bubble" serves as an object lesson. ["Object lesion" for those with a sense of humor.]

Gold Climbs Above $1,110

The U.S. dollar's rally fizzled last night, which pushed gold up slightly to above US$1,110/oz. As I write this post, spot gold's hovering at $1,099.00. This Wall Street Journal report which ties the two together quotes some unnamed traders as saying, "the rise in commodities as a whole could be an end-of-year push amid holiday-thinned trade and that any renewed dollar strength at the start of 2010 could again cause some selling."

The attributed guess is still for a trading range:
The market will watch data out of the U.S. including weekly jobless claims and November durable goods orders later Thursday, said Afshin Nabavi, head of trading and physical sales at MKS Finance. He said the metal is likely to trade between support at $1,075/oz and resistance at $1,125 an ounce in the short term.
This particular range is slightly higher than the ones mentioned in the last few days. However, sentiment is still beaten down right now.

A more optimistic analyst is quoted in this Globe and Mail report:
“Gold's rising because of a weaker dollar,” said Daniel Smith, analyst at Standard Chartered. “But also the recent selloff was a bit overdone as a lot of the factors that supported gold are still in place,” he said....

“Investor flows have held up pretty well. Physical demand in places like India has been strong and I think that's going to be supportive of the prices,” Mr. Smith said, adding he expected a volatile trade due to holiday-thinned liquidity.

Also in the Globe is a tabulation of the twenty-seven worst performing stocks in the Toronto Stock Exchange / Standard & Poor's Composite Index of 300 stocks. Three of them are gold stocks: Agnico-Eagle, Kinross Gold and and Barrick Gold. Given gold's rise this year, the stocks don't seem to have done all that well. The financial crisis was to blame, of course.

Interestingly, there were several integrated oil, upstream oil-and-gas, and related-energy stocks on the list. Crude oil's also done quite well this past year - better than gold, actually.

So, it wasn't just gold stocks that were banged down stay-down hard by the financial crisis. Oil stocks have been too, and have been reluctant to rally even though the resource plummet is long over. Believe it or not, the oil-pipeline stocks have done better than the oil stocks is the past few months. Even the electric utilities have done better in recent weeks.

Wednesday, December 23, 2009

Gold Best In Class For This Decade

That's according to a person who seems immune to gold's charms. As the chart in the post shows, "Gold Outshines All Other Assets For Past Decade."

What's interesting about that chart is the fact that gold would not have been the best-performing asset class had the financial crisis not erupted. As of early 2008, both crude oil and the commodities index solidly outperformed the metal.

Gold Torched Over At The Business Insider

The post itself is neutral, dealing with the drop below US$1,100, but it serves as the backdrop for some gold skeptics to pick on the goldbugs. I haven't been reading the BI's gold posts long enough to get a solid sense of what's normal in the comments section, but it seems that the gold-bashers are getting bolder. Contrarians may be interested in this datum.

A piece by Kishori Krishnan, webbed at Gold Investing News, is actually pessimistic in tone. The goldbug case rates only a passing mention.

Here's a gold-bull post that's laced with a conspiracy theory popular in the gold world: the gold bull market is deliberately hobbled by active suppression of its price. Ironically, this fellow's on the right side of the contrarian wind by saying it's an "Excellent Opportunity To Buy Gold."

In the gold world, conspiracy theories often serve as a faith-substitute. A cynical lot, goldbugs can't resort to the usual mantras found in the regular stock market. They can't urge themselves and others to stay the course by saying "it's undervalued," "stocks always go up," "don't bet against Uncle Sam," etc. They can't even come up with their own boosterisms because, by their own admission, gold can be nothing more than a savings device or a speculation. And, of course, their entire case is built upon the assumption that the U.S. economy is headed for a gigantic reckoning due to the distortive effects of government (primarily monetary) intervention.

So how can they come up with a slogan to match, say, "you can never go wrong, long term, by buying a stake in U.S. productivity"? You can never go wrong, long-term, by betting on governmental stupidity? It's too oppositional - the kind of stance that provides a fertile soil for, yes, conspiracy theories. After all, stupid people should be easy to play off against...

Gold Takes A Breather

After making a new near-term low late yesterday morning, gold's been in a trading range. Spot gold's meandered between US$1,080 and $1,090 in that time period, and is currently at $1,085.40. This Marketwatch report ascribes yesterday's plummet to good economic data from the U.S.

A Wall Street Journal report quotes a gold skeptic:
"It's quite possible we have seen the peak in gold," said Erik Davidson, Wells Fargo Private Bank's managing director of investments in the western U.S. "In 2010, I think things will go back to normal, i.e. a growing economy, and normal takes a bit of fear away from gold."

Mr. Davidson says he thinks gold will trade between $800 an ounce and $1,200 an ounce for the "foreseeable future."
There's a balancing quote from a gold bull, who's cautious right now.

Speaking of caution, Mark Hulbert's latest column points to growing pessimism amongst gold advisors. His Hulbert Gold Newsletter Sentiment Index, a measure of optimism contained in short-term gold timer advisory services, has plummeted from +53.8% to +10.9%. Although not indicative of a bottom as of yet - typical bottom ranges are negative - it's veering in on one, from a contrarian standpoint. No wonder the column's entitled "Building a wall of worry: Sentiment picture for gold is rapidly improving."

Tuesday, December 22, 2009

Gold Drop Makes Yahoo! Finance/CNN Money

Courtesy of this article, "The gold 'bubble' takes a bow to the dollar." I note the inverted commas around the word "bubble."

From it:

"There are a lot of people throwing in the towel as gold moved below $1,100 for the second day running," said Adam Klopfenstein, senior market strategist at commodities brokerage firm Lind-Waldock. "I do think the bull case for gold is going to be on hold for the rest of the year."
Also quoted in the article is senior Kitco analyst Jon Nadler, who says that investors got carried away by a lot of hype - some ridiculous in retrospect. What's interesting about these two is that Klopfenstein is a longer-term gold bull, and Nadler's employed by a big gold seller/information depot.

Some things have to be learned the hard way. Unfortunately, the investment markets have a definite tendency to make fools of us all. That's why so much investment education comes courtesy of the school of hard knocks. The markets are so confounding, it often takes recovering from a spell of foolishness to even understand many oft-quoted market lessons.

I've found that understanding is helped by realizing that many investment consensuses, the kind that fall apart, are plausible; many are logical. The thorn on the rose is on the blind side. Consequently, many consensuses are blindsided by what an honest and reasonably well-informed observer would consider an extraneous or irrelevant factor. ["A real-estate decline? Won't matter, because declines in one region have been made up for by gains in another." "A general real-estate decline? Not possible unless there's another Great Depression. That's the last time we ever saw one of those."]

Consensuses can be negative as well as positive. Remember how many people thought that the United States would become like Japan? Now, a recovery is in the offing. It's been tepid so far, and largely goosed by government action right now, but the U.S. is still the U.S.; it's not Japan. I think one of the reasons why so many people are cynical about the recovery is because they remember the Bush stimulus, and what followed it. I was one of the people who thought that the Bush stimulus marked the end of a slowdown, rather than a prelude to a vicious recession. That fake-out made a lot of people wonder how fragile the U.S. economy really was. However, the U.S.-as-Japan case was always based upon "this time, it's different." Just because that slogan was used pessimistically instead of optimistically this time, doesn't change its nature.

The same consideration applies to the hype - negative hype, of course, but still hype - about the U.S. dollar. Greenback bears have been fairly logical in their case, and still are. The exploding U.S. deficit isn't going away anytime soon, and foreign buyers of U.S. Treasury securities are beginning to show reluctance. However, there are no signs of serious U.S. inflation as yet. And, as we now know, the greenback is far from being dethroned as a safe-haven asset class. The problems that the U.S. dollar bears point to haven't really kicked in as of yet; they're largely potentialities as of now.

Now that I'm finished sounding off, I'd like to make this point: more gold bulls are folding their hands near-term. Contrarians may be interested.

An afterthought: One possibility that the deflationistas haven't considered is tepid growth while debts are whittled down. Case in point: the 1950s. [Graph here.] That decade saw two recessions and a growth rate that was much lower than that of the '60s, '80s and '90s - even lower than the '00's. The two recessions in that decade were relatively mild, but the overall slowness in growth was an issue in the 1960 election.

Granted that the 1950s didn't have a huge debt bubble, but it did have high marginal tax rates combined with a restrictive fiscal policy and a not-very-expansionary monetary policy. I think that this outcome may be the one that government planners are counting on, where a restricted consumption budget combined with loose fiscal policy is a rough stand-in for moderately expansionary private spending combined with rectitudinous government spending.

Of course, an alternate scenario is the slow-growth 1970s. The chief difference between the 1970s and now is that the U.S. government found it much easier to export inflation back then. On the other hand, it's a lot easier to sell Treasury securities now - even with the deficit as huge as it is.

I'm not a conspiracy-minded fellow, but one possibility to consider is that the U.S. government has an interest in the U.S.-as-Japan trope propagating. If the U.S. is widely believed to be in for a "Lost Decade," then the bond-market vigilantes will nod off and become torpid. Any resurgence of inflation is likely to be greeted as aberrational, buying the U.S. Treasury some time when it can borrow at low (or even negative) real rates.

The capacity-utilization argument already serves in that capacity. "If capacity utilization [currently 60%, well below this decade's norm of about 80%] is so low, how can there be any sustained inflation? A blip, nothing more. You'll see."

If inflation ramps up in the face of sub-normal capacity-utilization rates, we're looking at stagflation - the kind that can fool the credit markets. It may be a homely truism, but inflation policy always seeks to turn the creditor into the patsy. There are times when creditors do act like suckers; at such times, inflationary policies are pursued.

There's another way to kick the can: covertly encourage the banks to shift more of their assets into U.S. Treasury securities. Not only does it keep demand for U.S. Treasuries higher, making the rate the government borrows at lower, but also it short-circuits the usual expansion of the monetary base. When banks loan to the general public, they create new balances that add to the money supply. That's what happens when a loan is approved: the borrower's account is credited with the funds once the loan is agreed to. As long as the bank in question has more reserves than required, the bank need not deploy already-existing funds into the credit. The new loan (a new asset) balances the credited funds (a new liability) in the bank's books.

When banks lend to the government, on the other hand, they buy securities with already-existing funds; no new balances are created. Thus, lending to the feds doesn't push up the money supply - unlike lending to the public. This charmed circle keeps both real and nominal rates low, preventing U.S. Tresury debt-servicing needs from crushing the fisc.

Under this scenario, unlike the previous one, gold won't fare all that well. That's because this approach will turn the U.S. economy into Japan's! Makes for a neat self-fulfilling prophecy...

Seeking Alpha Article Recommends Getting Your Guard Up

Using a slick ad that's in the CNBC loop, Jeff Miller points out that some ads are too optimistic to be believed - and some heavily-advertised gold plans have commission and transaction costs that are pretty steep. His article's titled, perhaps incongruously, "The Gold Debate: Here's Why You Should Be Wary." He goes out of his way to show that he's not down on gold, which seems to explain his title.

Hope's Still Springing

As reported in the Financial Post Trading Desk section, another bullish forecast for gold has been issued - this one, by J.P. Morgan. Analyst John Bridges has set a target of US$1400-1450/oz for gold to be reached in the second quarter of next year. After that point, gold should decline. Bridges has built his target on the assumption of further U.S. dollar weakness, which hasn't been that much in evidence lately. He also assumes that gold demand will remain strong, that the market will become increasingly discomfited by the Fed's ultralow interest rate policy, and that the greenback will reverse its recent uptrend and hit new record lows. I note that his target date is consistent with the Fed raising rates in the middle of 2010, which the overall market seems to expect also.

I'm not an investment professional, but I suggest that forecasts of this sort be treated with a little caution. As a trend-watcher, the extent of the greenback's rise surprised me. There have been so many reasons for the U.S. dollar to sink, and so few indicating a rise, that I was expecting little more than a blip. The same expectation may be going through the minds of the professionals.

Moreover, investment targets are not often met - particularly when they seem outrageous when they were first made. Gold at $1200 was one of those targets. There seems to be a suspension of disbelief as a result of that met target, which is encouraging more bullishness at a time when it may not be appropriate.

As far as the U.S. dollar is concerned, its hidden strength suggests that the bear case has something missing right now. My own guess in the matter is the greenback carry trade being unwound as it becomes apparent that the U.S. economy will not track Japan's of eighteen years ago.

Royal Canadian Mint Gets Swamped

A recurring scandal involving the Royal Canadian Mint, purveyor of the popular Maple Leaf bullion coin, has now been resolved. As webbed by Joe Wiesenthal of the Business Insider, an audit squad has finally tracked down what happened to about $20 million' worth of gold. Some of it was miscounted, but about $6 million of it was sold as slag to refiners. The Mint blames the explosion in demand for Maple Leafs in 2008 for the mistake.

I have to say that this kind of mistake is, by my lights, all-Canadian. We Canadians respect burden-bearers, and our vanities encourage us to think we can bite off more than we can chew when crunch time comes. Although I have no inside info, I'm sure that's what happened at the RC Mint.

This Toronto Star article goes into further detail, and includes Parliamentary reaction to the report.

Gold Continues Its Slide

The price of gold has now reached a six-week low; as I write this post, spot gold's at US$1,092.50 after dipping to just over $1,085 at 8 AM ET. That new, lower trading range talked about in the press is becoming a reality. The two-month tear that began in Halloween is about 80% reversed.

Needless to say, the U.S. dollar index has risen. And, I need say, U.S. stock futures have risen too. As one day turns into another, a negative correlation between gold and U.S. stocks becomes more firmly established.

This U.S. dollar chart shows the greenback is higher than it was as of the end of October:

and shows what appears to be a solid trend reversal. It looks like the oft-mentioned carry trade is reversing, as the U.S. economy recovers and the U.S. dollar shows it's not obsolete as a safe-haven destination. Gold isn't widely seen as the ultimate safe haven, at least as of yet.

A Wall Street Journal report ascribes gold's latest reversal to strength in the greenback, and quotes another expert as saying that gold could trade between $1050 and $1080 as the end of the year approaches. Still, according to the report, the SPDR Gold Trust's gold holdings increased Monday. There's evidently buying in the face of the recent weakness.

Gold's had quite a drop recently, and yet I've encountered little comment about the gold bubble bursting. The people who claimed that gold's been in a bubble should be crowing over the decline, or saying the recent slump is evidence that they were right about the frothiness. Gold's decline over the last three weeks has been steep, but it's also been orderly. For precedent-hunters, I point to the decline from about $730 to about $590 in 2006, from late April to early June. The gold price dropped about 25% in that interim, and stayed in a $600-$700 trading range for the next fourteen months. [The present decline's been about 12% as of now.] Only a resurgence in U.S. inflation got the bull marker resuming in August '07-March '08.

We could have seen a mini-bubble in gold, or froth in the midst of an underlying bullish trend.

Monday, December 21, 2009

Gold Mine In U.S. National-Security Incident

As reported by Kishori Krishnan at Gold Investing News, the sale of 51% of Firstgold to the PRC's Northwest Nonferrous International Investment Company has been blocked by the U.S. government on national-security grounds. The story compares the takeover to the blocked "acquisition by Dubai Ports World of Peninsular and Oriental Steam Navigation Company’s US ports management business."

The mine isn't that near the U.S. naval base that's the object of the block. The U.S. government doing so could be seen as sending the PRC a message.

Update: Northwest Nonferrous has now withdrawn its offer.

Another Morning Spill, Followed By An Afternoon Plummet

And, another hole poked in the supposed positive correlation between gold and U.S. stocks. As I write this updated post, the three major averages are up about 1-1.1% each. Spot gold, after taking a spill from about $1,117 to $1104.20 in mid-morning, collapsed to about $1,090 just before 1 PM. The U.S. Dollar Index partially explains the drop [live chart here], but not all of it. The index was higher in the early morning, when gold was still above $1,110.

Historically and traditionally, gold was negatively correlated with U.S. stocks. As for today, there's rationale for negativity. Not only does a rise in stocks foreshadow a rise in U.S. interest rates, but also a rising stock market induces foreign demand for U.S. stocks and (indirectly) U.S. dollars with which to buy them. We may see the eclipse of the positive-correlation.

Cautious Bulls

Over at Minyanville, gold bull Przemyslaw Radomski has written an analysis of gold whose conclusion is becoming more common amongst his fellow bulls: the long-term trend is intact, but the near-term deline has a ways to go. His case, based on technical analysis, hinges upon a near-term bearish reading of the U.S. stock market and the oft-noted positive correlation between gold and U.S. stocks. The first part of his article reviews the state of the gold market at the beginning of the current bull.

There's a certain wryness for me in the comparison of the U.S. stock market to gold. Traditionally, that relationship has held true for the Canadian stock indices...because there's more than a few gold stocks listed on Canadian exchanges. The correlation vis-a-vis the U.S. averages is, of course, more abstract in the mechanics.

Another analysis, from Andrew Butler at Seeking Alpha, looks at the oil/gold correlation and why it's gone out of whack in the last couple of years. He attributes oil getting ahead of gold last year to a now-popped bubble in the former, and gold getting ahead of oil because of ETF buying.

Thankfully for gold bulls, ETF demand looks solid as of now. However, ETF selling could add a lot of downward pressure on the price if a plummet convinces some big holders that the bull run is over.

Quant Weighs In On Gold,

and doesn't much like the odds in place now. The benchmark used by Dundee Securities strategist Martin Roberge is growth in the U.S. M2 money supply; that growth rate is shrinking. So, despite the 'til-recent plummet in the U.S. dollar, the odds of gold going up are low right now.

It's interesting that he uses M2. Back in the 1970s, monetarists used M2 as a forecaster for economic growth. For consumer prices, M1 was used. The graph of the M1 money supply gives a different picture. Here's a graph, from the St. Louis Fed, showing the % changes from a year ago of M2 and M1:

Both measures were actually discredited in the 1980s and '90s because the inflation rates no longer tracked either. The demand for money shifted.

[Note: The M2 graph begins at 1980. The M1 graph begins at 1975.]

Quiet So Far

After dipping to a five-week low last Friday, gold recovered somewhat to make it above the bottom of the previously-oft-mentioned US$1,110-$1,140 trading range. Early this morning, spot gold hovered between $1,110 and $1,115. As of the time of this post, spot gold's at $1,115.50

This Wall Street Journal article says that trading is light, and quotes an analyst proffering a new, lower trading range:
"We would look for speculative and investment bargain hunting buying to provide further support in the coming sessions, although with the stronger dollar still the primary driving force, the metal remains at risk to a dip back to the $1,050 a troy ounce to $1,080-per-ounce area," said James Moore, an analyst at
Commerzbanks' predicting that gold will end the year at $1,050/oz.

Interestingly, the rest of the article reports that both the net speculative long open interest and SPDR Gold ETF holdings both increased on Friday. The former is attributed to short covering.

Sunday, December 20, 2009

Year's End Take From The Financial Sense Newshour

This weekend's Financial Sense Newshour show is the last new podcast of the year. The others in the next two weeks will be re-runs. The hosts have adopted a four-stage model for the gold bull market which John Hathaway of the Tocqueville Gold Fund came up with (on Scribd doc, p. 2). The first stage is the "beginning," which starts off slowly and eliminates an investment's undervaluation. The second is the "end of the beginning," which features "noisy and dynamic behavior." Mr. Hathaway believes the second stage ended when gold reached US$1,000/oz. The third stage, which we're in now, is the "beginning of the end," when frothiness enters the market. The fourth and final stage is "the end," or the final blowoff.

In this model, a bubble is reached in the fourth stage and incubates in the third. Hathaway is on record as expecting irrational exuberence to enter the gold market:
Hathaway believes cultural lag is the key to understanding why gold, "ridiculously undervalued for an extended period, could be on its way to becoming an investment bubble, perhaps several years from now."

"In our view, public expectations are about to pivot in a way that will ultimately take gold to valuation that cannot be explained by dispassionate and reasoned discourse," he predicted. "Irrational exuberance lies ahead for gold."
However, he believes that gold isn't in a bubble right now: "'Gold is a bubble only for those who maintain faith in the politicians and financial authorities to swim against the tide of deflation. For the rest of us, it is protection against monetary damage still to come.'"

Saturday, December 19, 2009

Gold Ends Week With Friday Gain

It wasn't the best week for gold, but it ended with Thursday's plummet halted on Friday. Unusually, gold rose despite a gain in the U.S. dollar. According to this Globe and Mail report, gold rose because of short covering triggered by a rise in crude oil. A Marketwatch report ascribes the respite to options expiration and an ETF-driven technical rebound.

To shift slightly, physical gold demand in North America is still rising - and the holiday season is one of the causes. As this Toronto Star article puts it, bars of gold are becoming "the ultimate stocking stuffer."

Speaking of gifts, there's an article on a tradition in Gary, Indiana: a bunch of kids raise money through fund-raisers, buy a gold coin, and drop the coin into a Salvation Army kettle. The child chosen to give it is one who's suffered a personal misfortune in the past year. This year, it was a .1107 troy ounce Austrian "Philharmonic" coin.

Friday, December 18, 2009

A cautionary point from Mark Hulbert

Hulbert's latest piece at MarketWatch calls attention to what he calls bullishness "clung to stubbornly." Despite the recent gold plummet, goldbug bullishness hasn't receded all that much. As he elaborates:
Gold timers' behavior this week leads contrarians to conclude that gold's correction is not yet over.

That's because optimism among the gold timers quickly jumped earlier this week in the wake of just a couple days of strength for gold's price. And then, after gold bullion plunged anew to fresh correction lows, their optimism didn't fade.

Both are bad signs, according to contrarian analysis. The first suggests an eagerness to jump back on the bullish bandwagon, and the second suggests that the bullishness is being clung to stubbornly. If sentiment follows the contrarian model, on both counts it will be just the opposite at the correction's ultimate bottom....
He's careful to note that this analysis is short-term in nature, and says nothing about the fate of gold a few years out. However, it does suggest that the current correction is not yet done.

I should add that a continued gold drop is consistent with a continued rise in the U.S. dollar, which would be consistent with an unwinding of the greenback carry trade.

However, in recent months, gold's gone on tears when its relative-strength was higher (less bullish) than it is now. This chart shows it - look at the line at the top:

Peter Schiff's Still Staying The Course

As reported by the Peter Schiff Blog:
I think 5,000 dollars is a reasonable expectation of where gold is headed over the course of the next several years, based on monetary and fiscal policy that is in place. Now if the government were to reverse course - if they suddenly brought the budget into surplus, and if the Fed aggressively raised interest rates back up to a reasonable level, say 5%, 6%, or 7%, not just a quarter-point every few months - then gold would probably not get to 5,000 dollars."
In other words, despite the recent rally in the greenback, the underlying fundamanentals haven't changed. The U.S. is still heading down Inflation Lane, and will continue to do so unless there's an unprecedented tightening in fiscal policy and/or unprecedented adroitness in the Fed. I've read at least one professional goldbug who welcomes the current decline, because it gives a chance to buy more at lower prices.

Despite all the gloomy talk...

...and the 10% drop in gold prices, gold speculators aren't giving up. As Vincent Fernando points out at the Business Insider, long positions haven't shrunk.

There are two interpretations. It could be said, as did this blogger here, that gold speculators are "in denial." But, it could also be said that the speculators are there for the long haul - that their hands are stronger than those of the stereotypical minimum-margin plunger.

Also in the Business Insider, Joe Wiesenthal includes a chart showing that gold hasn't acted like an investment in the grips of an all-out bubble: its rise hasn't been that strong yet. He also passes on CIBC's conclusion that gold is not in a bubble.

Perils Of Gold Stocks

One of the argments for rising gold prices - diminishing production, or so-called "peak gold" - doesn't bode well for gold stocks. This article by Kishori Krishnan, entitled "Gold Industry On Final Deathwatch?", goes into the production difficulties some gold-mining companies are facing. She makes the useful point that the hoped-for leverage from gold stocks is not automatic, particularly nowadays. The easy deposits have been found, and some mining companies are in conservation mode.

Jim Puplava of the Financial Sense Newshour podcast has pointed out that there's one way for the majors to compensate: buying junior-gold companies with feasible "elephant" deposits, or ones that have at least a million ounces of gold (probably, several million.) He predicted that 2010 will be the year of mergers and acquisitions in the junior-gold sector.

His prediction makes sense for two reasons: first of all, financing is harder to come by for juniors. Secondly, M & A activity, in general, increases some time after production has peaked. The trusts came into their own in the middle of the original Great Depression (1873-1896.) M & A activity ballooned in the 1980s, about a decade after the U.S. economy began spluttering. Consolidation makes sense in those times for two reasons: prospects for direct expansion don't look that encouraging, and existing companies's prices have been beaten down (because of pessimism) to bargains. A study of the M&A trend, done about twenty years ago, revealed that the only acquisitions which made business sense were of companies whose assets were bought at a significant discount. A funny conclusion in a way, as it implied that a good corporate acquirer uses the same rule that good value investors follow.

Since the coin of the realm is "assets at a discount," it follows that a takeover-candiate junior has to have a market cap that values its gold reserves at an enticingly low price. These companies were easy to find a year ago, but not so much now. Also: Puplava's criterion has to be kept in mind. Unless the property's reserves show a solid seven figures' worth of gold in ounces, it's beneath an acquirer's notice.

$1100 Held After All

As the U.S. dollar rally abated, gold bulls got a respite after the price dipped briefly below US$1,100/oz. That dip took place at about 3:45 PM ET yesterday, and lasted for about two hours (excluding the late-afternoon time-out.) Then, the gold price slowly clambered up above $1,100, lumbered to its previous support level at $1,110, and stayed stuck in a range. As I write this post, spot gold's at $1,105.20

This Globe and Mail report shows a bend with the new wind: an expert quoted modified the earlier $1,110-$1,140 trading-range forecast by adding a contingency: gold will be in that range provided that the greenback doesn't keep rallying. Also mentioned is that Indian physical-gold buyers are holding off purchases because they expect the price to drop further.

Thursday, December 17, 2009

Spot Gold Breaks Below $1100

As the U.S. dollar rally continues, gold keeps being put under pressure. After 3;30 PM ET, gold dipped below US$1,100 and, after a pause, fell below it. As I write this post, spot gold's at $1,096.00.

This report from a PRC news outlet explains it: the greenback's becoming the safe-haven place to be, once again.

Gold falls through $1110

Spot gold touched US$1100/oz right at noon and then reversed slightly, due to the continuing U.S. dollar rally. This report says that the greenback's been boosted due to concerns about Greece's sovereign debt.

The market's opinion is pretty clear cut: The time for gold as the ultimate safe haven isn't here, at least not yet.

Is The Greenback Carry Trade Unwinding?

This Marketwatch story hints that it is. A plausible one, because the yen carry trade took place in the backdrop of an economy that stagnated long-term. Increasingly, the U.S. economy isn't resembling Japan's lost-decade economy. So, there's an added unpredictability factor that carry-trade participants don't really need.

Wouldn't it be something if the much-talked-about carry trade proved merely to be the flavor of the year?

COMEX Rule Change May Indicate Frothiness

As reported in Citizen Economists, COMEX has raised the margin requirement for gold and silver contracts. The rest of the post points out that the gold-futures matrix is showing mild "backwardization," meaning that the price for more distant contracts is slightly lower than for the front-end contract. Backwardization pops up when it looks like gold's going to fall. This take is consistent with the author's take on the margin upping:
The result of these increases in the margin requirements will likely be somewhat bearish for the metals in three to six months. This is because it will require more capital to control the same amount of the commodity and will serve to dampen some of the speculative hot money which has been flowing into the metals lately.
Of course, the same argument applies to hot money that seeks to short gold.

Useful Article On How The IMF Administers Its Gold

Headlined as a reminder that about half of the planned sale amount has yet to be sold, the article delves into IMF gold policy past and present.

Silver And A Mystery Explained

Recently, at lest one goldbug - Ed Steer, who's with Casey Research - has pointed to a disparity between gold and silver drops. This article in the Telegraph explains why: buying physical silver is becoming more popular.

In a precious-metals bull market, silver usually fals behind gold until the bull's mature; then, silver tends to explode. We aren't at that stage yet, but the new demand for silver isn't inconsistent with such a move in the near future.

A Gold Skeptic Lets Loose

The skeptic is Martin T. Solsnoff, and his argument against gold might as well have come from the 1960s. I half-expected him to use the now-fustian phrase "bond bores," as he quite clearly believes that stocks represent the best investment alternative. His gold-bashing serves as bookends for his stock recommendations.

The man's been quite a success, and that tells you something. People who achieve great success in their field tend to swim with the mainstream and stick with it. Mainstream-changing, or taking seriously the perhaps-fustian promises of higher education in the thinking department, isn't conducive to career success. To put it in street terms, you gotta sing the tune.

Of course, goldbugs have their own tune and their own mainstream. Libertarian-oriented, quasi-academic, at least friendly with the Austrian School of economics, at least tolerant of conspiracy theories, cynical about governments and their effectiveness. That's the tune for gold investors, and even a gold-mining CEO content with a unionized labor force has to roll with it.

This Seeking Alpha piece by goldbug John Browne provides a counterpoint to Mr. Solsnoff's aversion to gold and the gold standard. Mr. Browne, I believe I should add, is a former U.K. MP.

Reuters Compliation Of Recent Gold Forecasts

They're from various financial institutions, mostly banks. What's surprising about this Factbox is not just the overall bullishness in the group, but also the sedateness of the forecasts. Goldman, Sachs stands out as the most optimistic of the bunch, for predicting that the 2010 average gold price will average $1265/oz and reach $1350 in twelve months. Most of the banks polled pick $1100-$1200 as 2010's average price.

Even though those numbers are above today's price, they're pretty moderate. If the banks mean "average" in the strict sense, and if their forecasts are averaged to produce a consensus, then they're saying that someone who buys gold today has a 50% chance of a 5%-or-so profit some time next year. That's not wild by any means.

Another Wealthy New Entrant Into Gold Investing...

...who's gotten himself into a bit of a spot. That investor is Greg Chamandy, the force behind Gildan Activewear. He plowed some of his considerable fortune, made as founder and former CEO of Gildan, into Quebec-based junior producer Richmont Mines. He currently has 19.3% ownership of Richmont.

As this Globe and Mail report says, Richmont hasn't been doing all that well lately due to growth-prospect concerns. Consequently, Chamandy is exploring opportunities to "enhance shareholder value." Although what he plans to do is unspecified, it's not going to be very good for Richmont's extant board.

What better cautionary tale than a business wunderkind in another line of business getting tangled up in a lackluster gold-mining company? As the story indicates, gold mining is not the same as gold itself: mining's a business, and the supposed leverage is not automatic. It may seem simplistic for me to say so, given producers' continual exploration efforts, but a gold mine is a wasting asset. The more value extracted, the more the asset is depleted.

This seems the best time to pass on the old boilerplate about exploration-level juniors: far less than 5% of all explored projects wind up as mines. What keeps the stock price of exploration juniors with all-but proven minable deposits so low, is the financing barrier. Financing is hard to get nowadays, except for "elephant" deposits in stable pro-mining jurisdictions. That's why many properties are passed from junior to junior to junior.

Update: Subject to shareholder approval, Chamandy is now the executive chairman of the board. That's what owning nearly 20% of a company, plus a track record of building and growing another company, can get you. Despite earlier speculations, Chamandy's new plan isn't to sell off Richmont or its assets: it's to grow the company, perhaps with acquisitions. Takeover rumors might be swirling in the gold-junior arena as a result.

Digressionary Update: While I'm on the subject of company risk, here's another item to consider: another junior producer, one-mine Kirkland Lake Gold, reported a wider loss in the latest quarter despite the recent rise in gold. A borehole in its Macassa mine collapsed, leaving its deposit inaccessible for three months. Most prodution crews had to be diverted to upgrading work. Kirkland's stock has more than doubled since its January low, although almost all that gain was yielded in the early part of this year. It's been in a trading range since May. Anyone who bought the stock as of June 30th would be sitting on a slight loss right now. Gold itself has gone up about 18% in that same timeframe.

A Trading Range After All

After reaching about US$1142 last night, gold fell almost $30/oz on the strength of the U.S. dollar. As of the time of this post, spot gold's slumped to $1114.90. Both this report and this one ascribe the drop to the continued rise in the greenback. The former report mentions dollar short covering as one of the causes of the U.S. dollar's strength, and the latter points out that investment demand for gold remains strong.

Somewhat ironically, the U.S. dollar was driven up by the Fed's remarks. Conventional forex theory says that the greenback shouldn't have benefited all that much from yesterday's Fed announcement, as the FRB promised to leave interest rates at the ultralow level they're at now. As long as rates are foreseeably at 0-0.25%, there's no additional incentive for any significant capital inflows. Why change a capital-allocation decision when the ultralow yield (the incentive) isn't going to change?

And yet, the greenback's still climbing on recovery hopes. The obvious explanation comes from traders: the U.S. dollar was too oversold, or went down too fast and hard, so it was bound to recover anyway. Another reason is recovery-related: as the U.S. economy heals, stocks will continue to go up. Consequently, there'll be less U.S. demand for other asset classes, including foreign stocks, and more foreign demand for U.S. assets - especially U.S. stocks. This net demand for U.S. assets provides an additional source of demand for the U.S. dollar itself.

A plausible reason...but, ironically, U.S. stock futures are down too. As the Wall Street Journal Online puts it, "US Stock Futures Lower On Post-Fed Hangover."

So we're back to the earlier rationale: the greenback is rising because an expected Fed rate increase is being discounted, even though the Fed board has given no indication that they'll follow through on that expectation.

(And it's said that the gold market is irrational...)