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The summer
has been a dizzying one for commodities. The last four weeks have witnessed
the price of corn soaring toward an all-time high due to withering heat in
the Corn Belt states. At the same time, this weather-driven bull market in
the grain market, as well as the recent oil price rally, has left investors
wondering if this summer might finally be gold's time to shine.
In the same
period that the CRB Commodity Index has rallied off a 52-week low, the price
of gold hasn't made much headway at all. Gold remains stuck in neutral as
both professional and retail traders have shown little inclination to bid up
prices. The high frequency speculative crowd had its wings clipped last
summer when CME Group initiated a series of margin requirement increases.
Since then the momentum crowd has been conspicuously absent from the gold
arena.
Small retail
investors have also been missing in recent months. Gold purchases have fallen
to levels not seen since before the 2008 financial crisis according to
figures released by the world's major mints. According to the U.S. Mint,
second quarter sales of American Eagle gold coins fell more than 50 percent
from the year-ago period to 127,500 ounces. This was the worst three months
since the second quarter of 2008, just prior to the worst part of the global
credit crisis.
Gold coin
purchases are viewed as a fear gauge, and the decline in buying interest this
year can partly be attributed to the run-up in equity prices since last
October. It's mostly a spillover consequence to the lack of a speculative
interest in gold since last summer's margin hikes. Indeed, the loss of the
highly leveraged trading element in gold has taken a mighty toll on investor
psychology which cannot be underestimated.
Shedding some
light on the situation, bullion coin dealer Roy Friedman was quoted by
Reuters as stating: "Many investors who have been in the market are
taking a break right now, looking for other investment opportunities, waiting
for a lower level to get back in, or waiting for some type of economic or
political market event."
Friedman's
assessment of the current investor psychology in the gold market covers the
three main explanations behind gold's lagging performance. His first reason,
namely that investors are looking for other opportunities, has already been
addressed here. This only explains gold's relative weakness in part, however,
since gold was able to rally for many years along with stocks and other
commodities without giving ground to its competition. Only since last summer
has gold's performance faltered relative to stocks.
Now what
about Friedman's second explanation, viz. that investors are waiting for a
lower level before buying back in? Of the three explanations he provides,
this one makes the least amount of sense. It is an established principle of
investor behavior that most retail investors - and this includes most hedge
fund traders - are only drawn to a market already in the process of moving
higher. The savvy investors who buy at bottoms are in the extreme minority.
Most participants require rising prices to attract their interest.
Indeed, gold
is already technically "oversold" on a longer-term basis as we've
discussed in recent commentaries. The 10-month price oscillator for gold has
registered its most sold out reading for gold in 10 years (see chart below).
While this is an important consideration for serious longer-term investors,
it hasn't done anything to attract the "hot money" crowd.
 
It's evident
that of the three factors listed by Friedman, the
last one - that investors are "waiting for some type of economic or
political market event" - is closest to the truth of the matter. Whether
that market event is catalyzed by yet another crisis in Europe or the
announcement of a major monetary stimulus program by the U.S. or European
central bank is immaterial. The market (and by market I mean the typical
retail investor and momentum trader) is waiting for gold to respond to an
extra-market headline event. And it's doubtful that gold will be shaken out
of its torpor until this event occurs.
There are two
major components of the gold price. The first one is monetary, the second is
emotional. Both have served as powerful catalysts to a gold rally in the
recent past. The monetary component is obvious to most observers in that a
sizable increase in monetary liquidity tends to increase the gold price. The
emotional component is mainly driven by fear - whether fear of a dollar
collapse or some other market-related or political fear. Right now the fear
element is muted since investors are too busy chasing high-yielding stocks to
worry about impending economic collapse. The dollar has actually strengthened
in the past year (see chart below), which gives investors even less reason to
pile into gold. Until investors are given a serious reason for concern, they
are likely to continue ignoring gold.
Gold's best
opportunity for a turnaround might not occur until later this year after the
vaunted 4-year "presidential cycle" peaks. You'll recall the last
time gold launched a new bull market from a major decline was after the
previous 4-year cycle peak in late 2008. After this year's cycle peak in
October, and especially after the U.S. presidential election, the economic
"hat tricks" that have kept the U.S. economy buoyant this year will
likely come to an end.
With the
election behind, there will be no further need for artificial stimulants to
keep things looking good on the surface. The period following the 4-year
cycle peak and the entry of the final "hard down" phase of the
Kress long-term yearly cycles in 2013-2014 should represent the ideal time
for gold to regain its luster.
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