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In the last 7-months gold has rallied above $500, $600, and $700 an ounce. On a spot basis the total gain from low to high (Nov 8, 05-May 12, 06) was 58.75%, and since May 12 the price of gold has declined by 14.16%. In other words, if you bought gold on Nov 8 you are still holding a 34.6% gain today (at $623 spot).
Without mentioning any names, some gold analysts remain compelled to treat every decline in precious metals as a once in a lifetime buying opportunity: It is as if no rally is ever large enough; that nothing will stand in the way of gold reaching its destiny of a new all time high. What these analysts sometimes fail to acknowledge is that a 58% rally over a 7-month period is an unusually large move for any financial market. Moreover, predicting that such a move will soon be repeated borders on the absurd.
I’ll admit that the US twin deficits are two ominous beasts that do no appear to be going gently into that good night. I’ll also admit that at current prices I am getting tempted to buy some more precious metals. What I can not do is conclude that the painful answer to US trade and budget imbalances must arrive anytime soon. Moreover, and in trying to remain objective, I can only conclude that the conditions that made the most recent gold bull-run possible are simply not present today.
What about Russia and China buying gold, the fact that some oil producers want to settle in Euros, stronger psychical demand, and the unspoken US policy of a weaker dollar? These are wonderfully bullish occurrences for gold! But they are also some of the reasons why gold is up by 34% since November 8!
What Have You Done For Me Lately?
This morning it was announced that ‘World Powers Give Iran Enrichment Leeway’. On Monday Bernanke (who recently hired an image consultant?), came out swinging with an extremely hawkish speech. Just yesterday gold was a super buy because an attack on Iran was imminent (can’t have Iran trading oil in Euros!), and Bernanke was about to print the dollar into imminent destruction. Sorry gold bulls, you can’t have it both ways. If Iran tensions continue to ebb and Bernanke makes good on his promise to kill commodity price inflation (inflation that the Fed helped create mind you), then two drivers of the recent gold rally are out of the equation.
When To Reload
There are two ways to buy into gold today. The first is to pick a level that you believe prices will bottom. After making some extremely timely calls during the most recent rally the usually levelheaded Grandich believes we have met an acceptable reload area today.
The other way to buy into gold is to try and predict what the larger money is doing using COT reports. Admittedly, the COT data has been almost useless since late 2005.
On this first point, I have mentioned the psychologically important $600 an ounce. As for the COT, open interest on gold has fallen in each of the last 3-weeks, and this week should be number 4. This suggests, and the slumping price of gold confirms, that the party in precious metals is on hold. What may help get the party going again is a significant drop in commercial short interest.
Since 2002 one of the readings I follow has flashed buy four times, and each time has proven a good opportunity to accumulate. Although a little difficult to grasp, this reading deals with the week-to-week speed which the commercials are covering their short position in relation to the total size of the Comex market. It has been a reliable indicator because it tracks commercial capitulation during sharp sell offs.. Since 2002, here are how the top four previous buy signals played out after the reading struck above 10.
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The point to be made about the April 4, 2004 buy signal is that gold was crashing below $400 an ounce at the time (the commercials covered a remarkable 76,908 contracts at the $400 an ounce level in one-week!) and it took a little longer for prices to stabilize.
Conclusions
If the commercials cover by a significant amount this week, or more likely in next weeks data, gold could immediately become a buy. However, keeping in mind the powerful rally in the rear view mirror, not to mention that funny things could happen at $600 an ounce, this would hardly be a buy of a lifetime.
These are difficult times to blindly buy into the longer-term belief that US dollar hegemony is doomed. Not only is the IMF saying their new global imbalances team is trying to do something constructive this year, but Eurozone/Asian officials are unwilling to embrace stronger currencies. Although a viable paper alternative to USD is not required for the dollar to decline more sharply, it certainly wouldn’t hurt.
Yes, US dollar hegemony will one day end, and the ending will be exceptionally ugly. This is why I still own gold, and hope to buy more precious metals on further weakness. Until tomorrow at 3:31...
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