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Down by more than $100 an ounce since the end of July, and by nearly $200 an ounce since trading above $1,000 an ounce in March, some goldbugs have reverted to claiming that since the U.S. dollar is doomed gold is definitely a strong buy. The problem with this theory – which has been told in some fashion for as long as memory serves – is that a viable alternative to USD hegemony is nowhere to be seen. On the contrary, the Euro’s ‘new world currency!’ rally appears to be over and gold itself has failed to attract significant investor interest even as banks fail, financial stocks crater, and the global financial markets battle bear markets. In other words, with the financial world not ready for the demise of the U.S. dollar and the monetary powers that be still carrying influence over asset prices, the price of gold has corrected dramatically.
What is worth remembering as the price of gold corrects is that many speculators previously swarmed into precious metals based upon the belief that stagflationary pressures were here to stay. A chart using data from Google – which tracks the use of the term ‘stagflation’ – helps highlight this trend. Note how the latest reading of ‘0’ coincided with gold’s most recent plunge.
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As a lot of stagflation partygoers try to get rid of their hangover by dumping precious metals remember the following: until either a viable alternative to USD hegemony emerges or global central bankers fail in keeping the current monetary system together, gold remains a tradable financial instrument. By ‘tradable’ that is to say that most investors will buy and sell gold (or gold ETF alternatives), but what they will not do is accumulate or hoard gold in significant quantities.
What Will Spark The Hoarding Phase?
Gold needs to make the difficult jump from inflationary hedge to crisis hedge in order to avoid an even more serious correction. Yes, the longer-term USD fundamentals remain atrocious, and there is the possibility that commodity prices will rebound and/or central bank reflationary efforts will prove too effective (from an inflation standpoint). Nevertheless, so long as the rest of the world continues to perform as poorly as the U.S. economy the death knell for USD hegemony may not be imminent and gold’s next record could be far off.
In short, in order for ‘hoarding’ to occur there needs to be widespread investor panic. With the U.S. dollar sliding - at times - quite rapidly, and the Bear Stearns’ collapse prompting the Fed to put its reputation on the line, we have seen hints of such ‘panic’ in 2008 (there is some evidence that some newcomers into gold this year have purchased the physical metal because they were terrified that the financial system was unraveling and/or the destruction of the U.S. dollar was nigh). Question is, what have these newcomers been doing in recent sessions as the price gold plummets and the stagflation monster retreats? Moreover, without a crisis-like event, what will these newcomers do during a protracted period of soft economic activity and falling commodity prices?
My guess, extrapolating from the COT data, is that many newcomers (i.e. latecomers) have been and will continue to sell precious metals because there is no good reason to own gold outright* right now. Assuming inflation fears/expectations have peaked, this outlook only changes when, and if, the next Bear Stearns arrives or the U.S. dollar plunges again….
* There may be reason to enter into a ‘hedged’ gold position right now, and/or trade gold based upon the expectation that another late-season rally transpires.
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