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Will the Rout in Gold Kick-Start a Rout in Commodities?

January 28, 2011 Comments off

Something very, very strange is going on in the markets.  The falloff in gold is a big deal – far bigger than most people want to admit.  The “Massive Inflation Soon Scenario”, or “MISS”, has been supported by Gold’s march higher.

While we’ve been short the Barbaric relic since 1,400, others have remained wildly bullish.

When you point out to these people that we don’t have any real inflation in the U.S. or in Europe, then people rightly point out that gold is climbing higher.  Higher gold means that people fear inflation- at least that is the reason they are giving now.  Since markets are forward looking, higher gold means people think we’re going to have inflation sometime soon. The high price of Gold gives credence to the fears of inflation –

It is sound reasoning, really – but it requires either:

  1. inflation to materialize at some point to justify the price of Gold today; or
  2. gold to stay near its highs to justify the MISS scenario

What happens to the case for inflation if gold takes a 30% hit?  A major supporting wall gets knocked out of the house of “MISS”.  Without any current inflation, and inflation expectations remaining low, AND Gold losing 30% of its value, how can inflation trades in other markets be justified?

I consider the rest of the Commodities to be “me toos” in this case.  Corn, Soybeans, Wheat – all of these commodities are in bull markets.  These bull markets partly depend on the inflation scenario – which has been strongly supported by the run up in the price of Gold.  Those markets are small.  But we spend nearly 7% of GDP on oil and energy products.

A Rout in Yellow Gold could start a rout in Black Gold.

The dominant meme over the last few years has been “We’re on the edge of a crisis.”  Gold’s rally has been the “proof” that people need to “justify” that a horrible scenario was just about to happen.

First,  the complete meltdown of the financial world that propelled gold much higher. The reaction to get long gold was justified here. Next, the world experienced an ongoing fingertip wall climb out of the debt crisis abyss.  Again, a strong case can be made for gold in that environment.

The reasons given for going long gold have changed in the last 6 months.  The reason people are giving for going long gold now is “MISS”.  Of course, we’re still at risk of melting down in Europe.  It seems like both the “out of control inflation” idea and the “all Euro sovereign debts are bad” idea have run out of gas – at least for the next few months.

The meme would need to change if Gold falls from its highs.  It would have to be something like: “All Clear, smooth sailing ahead”.  This kicks the ladder out from under the grains complex, and makes some of the softs awful suspect as well.

But most importantly, oil has been rallying with a significant component of inflation fears as the fuel for the rally

If gold continues to fall, I look for a washout in some of the commodities, and oil in particular.  And if we get oil back down to $70 a barrel, the entire economy will be in a boom.

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Gold just closed below the lows of a Massive Bearish Formation

January 27, 2011 Comments off

It remains to be seen if this will result in further selling.  This formation took months to create, and the play out might take months to unwind as well.  Last time there was a large pullback in Gold, it lost 30% in total – it took a year, but 30% from the highs.  Gold bottomed in 2008 when Lehman collapsed, and since then has proceeded to double in value in just over 2 years.

That’s a big bull run, and with this recent news that someone huge got taken out of the market, well, I wonder if there is anyone else out there with huge gold positions that might like to protect some profits.  A few different fund managers bought tons of gold.  Tons.  A ton is 2000*16 = 36,000 oz, or 3,600 futures. That isn’t that many futures really, but when you are talking multiple tons, it can add up even if you have deep pockets.   Lets see, $100 * 36,000 is only $3.6M, so it cannot hurt that badly if you have a few tons.

I haven’t been checking on John Paulson, but at one point, he had 96 tons of gold.  $3.6M * 96 = $356M.  That’s a big swing in anyones account.  But Paulson isn’t the only one with huge stakes.  There are many, many funds out there with huge stakes in GLD.   And these funds really do not care what they are long or short, they just want to make money.  These are smart people who are used to buying and selling large postions.

Some of these funds might feel the need to put some money in the bank.  They will want to take profits, especially if this is a huge payday for them.  I expect there are a few other funds that will want to bail, now that gold has broken out of a huge topping formation that took months to make.

Not only that, the trend in Gold is now clearly down.  You can expect some trendfollowers to start piling into gold on the short side.  The close today will be very, very negative.  I expect a lot more capitulation very quickly.

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A Rout in Gold

January 5, 2011 Comments off

If it Gold goes below the support from the middle of last month – watch out.  Look for a 1250 print in a matter of days.

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Gold down big today

December 23, 2010 Comments off

Not surprised – According to the Jason Ruspini gold model, real rates have an outsized impact on gold prices.

With high real rates and what seems to be a sustained recovery, gold will find it difficult to sustain this price level.

 

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Gold and Real Interest Rates

December 22, 2010 1 comment

Jason Ruspini has an interesting idea about Gold.  There seems to be a good relationship between real interest rates and Gold.

Real interest rates have skyrocketed in the last few weeks. For a while, they were below zero in the 5 year.

The current rally in real interest rates is not good for gold.

There is a ton more great information in his presentation.  Gold does not appear to be a great fear gauge over the long run, but that doesn’t mean it is not a good one today.   Slides 8 and 9 are great on Gold as Money.    The Long-Termism fallacy is great – it is a great counter intuitive approach to how much volatility is appropriate for the stock market.

 

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If there was a Dollar Crash, what would people trade into?

November 15, 2010 Comments off

I keep asking this question, I have yet to hear a good answer.  For the U.S. Dollar to crash, some other market must absorb all of that selling with lots of buying.

What market would that be?  Now, as a practical issue, this market must be large enough to absorb several trillion Dollars of buying, perhaps as much as 4 trillion. Only a few markets could potentially handle this much buying.  Even spread across many markets, this much buying is too much.

So let us be more precise in our question.  If the U.S. Dollar crashed, what gigantic asset class(es) would have a the largest rally in human history?

My basic take is that there is not any asset class, or combination of asset classes, large enough to absorb this much buying.

Emerging markets simply do not have enough value to justify a tripling of their current valuations.  Ditto on the non-US stock markets. Real Estate is radioactive across the globe in developed countries, and not large enough in emerging markets.  Plus, anyone that’s ever been outside the U.S. knows – our buildings are really, really nice compared to other places.

The total GDP of the BRIC countries (in PPP) is close enough to the total GDP of the US that they could potentially absorb a massive amount of buying.  However, this would entail at least three impossible things:

  1. A doubling of their stock markets
  2. A doubling of their currencies values
  3. cutting bond yields in half for these countries
  4. using Brazilian Reals, Russian Roubles, and Indian Rupees as reserve currencies

Numbers 2 and 4 are particularly impossible.  If their currencies went up this much, these export dependent countries would be plunged into deep, deep recessions.

James Grant – a very smart man – makes this horrible mistake in the pages of the New York Times.  The U.S. Dollar cannot plunge without something else having a massive rally.  But he bases his entire article on something impossible, or close enough to impossible that it probably won’t happen in my lifetime of 50-60 more years.

He recommends gold as a way to create a sound dollar.  I just do not know what the point of a sound dollar program is either, but that is beside the point.  He is afraid of monsters under the bed and in the closet, laying in bed quaking in fear like a 5 year old, calling out for daddy gold to rescue him from his imagination.

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