So, Is This The Time Gold Breaks Out?

Posted by urbandigs

Thu Sep 3rd, 2009 09:11 AM

A: You know my feelings on gold here and how if there will be another bubble in our future, precious metals is the asset class at the top of my list for going parabolic. There are different theories on the gold trade from inflation/dollar hedge, to safe haven play in times of uncertainty, to a coming default at the Comex. I'm of the camp that likes gold because of the insane amounts of fiat money printing that is going on as a coordinated effort to stave off the same deflationary forces. Add in that the fed's balance sheet was likely compromised big time by all the credit facilities put in place to avoid a systemic financial event. Gold tried and failed to break out three times now leaving many gold bugs pulling out their hair in frustration. So is this it?

There is one noticeable difference that comes to mind about this time around compared to past times when gold approached $1,000 --> the need to delever and level of fear. The first time gold approached $1,000 was around February of 2008 when Bear Stearns was about to be rescued by the fed and JP Morgan for $2/share. The 2nd time was in early 2009 as the stock market approached its lows in a fierce selloff ridden with margin calls, fear, wider credit, and redemption requests. Both of these times saw the need to delever big time and raise cash, perhaps limiting the potential breakout of gold. In other words, those that needed to raise cash took advantage of the one asset class that was performing at the time of stress; and that was gold.

gold-chart-libor.jpgBut this time around equities are in the midst of a 50% surge, fear is non-existent, credit dramatically improved, corporate bond spreads much narrower, and tons of money was made on the reflation trade momentum - not really an environment conducive for fear based forced selling. Look at the chart to the right and notice where 3MTH LIBOR was the last two times gold approached the $1,000 mark:

February 2008 --> 3MTH LIBOR at 3.111%
February 2009 --> 3MTH LIBOR at 1.184%
TODAY --> 3MTH LIBOR at 0.34%

Clearly fear is not contributing to gold's rise right now. I think a large amount of deleveraging was already done in past episodes of fear and we may not see the forced selling to raise cash this time around as gold approaches that $1,000 mark - in short, the need to delever may not constrain gold from popping this time around. I deep down believe that one of these days gold is going to go ballistic and kill the shorts and surprise many. Whether that move is to 1,200 or 1,500 I don't know and when it happens I dont know, but it will be impossible to time and trading dynamics will kick in giving it that extra uumph to reach levels once thought impossible - similar to the move in oil from $100 to $145 in mid 2008 over a very short period of time that was mostly speculative momentum.

In my "How IN is Gold, huh?" piece back in February:


Our fed, and I'm sure ultimately other central banks, have a period of quantitative easing ahead of them - pure money printing. They are purchasing agency debt now right, $115Bln so far, and may have to fill the void and buy longer term treasuries down the road, should our friendly foreign funders decide to lay low, and focus on their own slowdowns for while.

In my humble opinion, the gold trade is not a hyper-inflation trade right now, but more of a lack of faith in paper money/fiat currency trade that ultimately could test its inflation adjusted high. Those in it now for the inflation hedge, are along for the ride as the world united battles deflationary forces.
Well, the fed will likely end up monetizing close to $300bln in treasuries and up to $1.25Trln in agency debt. That's a lot of dinero! Those buying gold on hyperinflation worries are simply hitching a ride as inflation concerns are way way out and I doubt the market is being influenced by that. Its hard to argue that inflation is pushing gold up now as we see credit contract, stocks trading at a 35% discount from peak levels and housing prices trading at even deeper discounts - those dollars that are losing value against other major currencies can still buy you way more house and way more stocks than only 2-3 years ago. So that argument doesn't jive with me. Gold is rising for other reasons and if the fed's balance sheet starts to come into question or people realize just how much money was printed to offset the destruction of wealth in the shadow banking system, you may see a jump to gold as an anti-fiat currency trade. Gold is finite and to many considered an alternative form of money that cannot be printed.

What To Watch For: Gold to rise even as the dollar rises. This disconnect occurred early 2009 as the US dollar index approached its most recent high of 89 right as gold approached 1,000 for the 2nd time. Gold is usually a dollar inverse trade so keep an eye out for another disconnect there.