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Gold’s
recent performance has certainly been a major disappointment to the many
analysts and investors who have been anticipating another stellar year for
the yellow metal. But the year is hardly over . . . nor is gold’s
long-term bull market.
I believe we
will see a reversal of gold’s fortunes and new all-time highs, if not
this year than certainly in 2013. Moreover, the now decade-long advance in
the metal’s price could last another five-to-ten years given the global
economic challenges that lie ahead.
For now,
gold’s short-term prospects remain uncertain. So far this year, gold
has traded at well beneath its all-time high of $1,924 recorded last
September. It’s subsequent low near $1,520 an ounce registered in late
December now, in recent days, again seems to be a vulnerable support level.
As we have previously cautioned, a fall back to $1,520 - or even lower - is
certainly possible before gold resumes its long-term ascent.
What could
trigger gold’s next up-leg and march into virgin territory?
The answer is
another wave of monetary accommodation, not just by the U.S. Federal Reserve
but also by the European Central Bank (the ECB) and other European central
banks, the People’s Bank of China (the PBOC), the Reserve Bank of
India, and a host of others who do not want to see their currencies
appreciate against the dollar.
In the U.S.
and China, the catalyst bringing on more monetary reflation will be continued
signs of weakening economies along with lower commodity prices and consumer
price inflation. Meanwhile, the ECB will be responding not only to rapidly
contracting economies - but it will be staging the biggest bail-out of all
time.
Gold’s
reversal from last September’s record high and its continuing anemic
performance reflect an Olympian tug of war between short-term institutional
traders and speculators operating in derivative markets trading paper proxies
for gold, proxies that have no supply limitation and are, in effect, created
by the sellers themselves . . . and physical markets where long-term investors,
jewelry consumers, and central banks have continued to accumulate a growing
quasi-permanent stock of metal.
It is in the
physical realm - the real world of supply and demand for gold bullion - where
the long-term average price of gold is set. And here the fundamentals are
decidedly bullish. In fact, thanks to continued central bank buying, rising
Chinese private-sector demand despite signs of a slowing macro-economy, and
limited mine supply availability, the fundamentals are becoming increasing
bullish despite the current episode of price weakness.
It is worth
noting that global gold-mine production has grown in recent years - but much
of this growth has occurred in China and Russia - and every ounce these
countries produce is absorbed locally by central bank accumulation and
private-sector investment and jewelry demand.
You’d
think gold prices would, by now, be flying at much higher altitudes what with
Europe sinking deeper into recession, bank runs spreading from Greece to
Spain, Portugal, and Italy, Greece increasingly likely to secede from the
Eurozone, and the European Union coming apart at the seams.
Instead, the
flight from the euro has favored the U.S. dollar - and the appearance of a
stronger U.S. dollar has contributed to a short-term bet against gold by
institutional traders and speculators. But the greenback is merely the
best-looking horse on its way to the glue factory and its recent strength is
merely a reflection of the euro’s decline. It is not supported by a
healthy American economy and sound U.S. monetary and fiscal policies.
The key
short-term players are a small number of banks, hedge funds, and other
financial firms who operate with the benefit of leverage and sometimes little
cash down and trade not in real gold but in futures, options, and more opaque
over-the-counter markets. What motivates these traders is the necessity to
make short-term trading profits.
For a good
part of last year, as a group, the specs were on the long side of the gold
market, contributing to gold’s stellar advance last summer. But as they
demonstrated later last year, they have no lasting or long-term commitment to
gold as an inflation hedge, portfolio diversifier, or insurance policy
against economic or political risk.
More
recently, it has been these short-term players operating on the short side of
the market who have held sway . . . and forestalled the price advance that is
surely coming.
At some point
- perhaps when the Greek economy and financial markets seize up, or the
country launches its own currency, or the black plague of lost confidence
spreads to other vulnerable, overly indebted nations - gold will return to
vogue and these traders and speculators will again favor the yellow metal as
an opportunity to profit.
Alternatively,
the European Central Bank could come to the rescue, issuing a
euro-denominated “mutualized” debt instrument - a European
version of U.S Treasuries - in order to provide sufficient refinancing to
bail out Greece, the other heavily indebted countries, and those essentially
insolvent private banks over-exposed to European sovereign debt.
The cost,
however, would be borne by much higher inflation across the continent and a
deep long-lasting devaluation of the euro. This time, however, not only might
the U.S. dollar look stronger as the euro weakens - but gold would likely
shine for reasons I have explained in great detail in past NicholsOnGold
reports.
Jeffrey Nichols
NicholsonGold.com
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