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The Oil That Bowled Over Gold!

July 6th, 2013
in gold, syndication

Gold Heads towards $1,000 as Predicted Nine Months Ago: So Is The Credit Crunch History?

Written by

Last September when gold was $1,850 I wrote on this column:

"I wouldn't be surprised to see gold under $1,000 in the next two years, and yes I know that's a real minority view".

Source: Crude Oil and Gold Still Joined at the Hip: Something Has to Give

I got the usual mildly abusive comments. The kindest was -

"This author has written decent articles in the past. I assume he was bored and just wanted some attention".

Follow up:

Truth be told, that pretty much hit the nail on the head. I very much liked the line about "decent articles in the past". So kind, Thank You Sir!! Although there again at my age you fret about suggestions that your prime was in the past and somehow you are becoming forgetful. Yes I was bored and seeking attention, but I was serious!!

It didn't hit $1,000 yet but that notion looks a lot more credible now than nine months ago, today at $1,200 after a little spike down to $1,180 it's made 75% of that journey; 25% to go.

So what's going on?

Ben is still printing, the ECB which promised not to print is printing, Japan is printing, BOE is printing; hyperinflation is just around the corner, right? Some say that even if they stop printing today, the irreparable damage to fiat currencies will still be in place. Therefore gold expressed in dollars or dollars expressed in gold ought to be where everyone said it would be nine months ago, as in $2,400 not half that.

Leaving aside all the theories, and there are many, since gold was allowed to float by President Nixon, there was, until the start of the credit crunch, a pretty good correlation between the price of gold and the price of oil, illustrated here for Brent:


Click to enlarge

When the credit crunch hit that correlation broke down and the price of gold reference the price of oil more than doubled (11.679/5.3621 = 2.17). But there was still a good correlation (80% R-Squared), just the relationship got re-set.

Today (28th June 2013) at $1,200, the probability the price of gold is still being driven by the same parameters that drove the correlation with oil prices since November 2008 is one in fifty (i.e. 2%).

In other words, it is reasonable to suppose that perhaps, whatever it was that affected the price since the start of the credit crunch; may soon not affect the price.

If that is correct, then the most likely outcome is that the price will revert to the long-term equilibrium in relation to the price of oil; in other words with Brent at $100 or so, which is what the Saudi's call "fair" and typically when they declare what the "fair" price is, that's what the price ends up as, then the "correct" price of gold, will be in the region of $780.

That will be good news in the sense that the world might not actually come to an end and values of goods and services will continue to be driven by the price of oil; and fortunately also, it appears that the world is not actually in mortal danger of running out of that stuff, anytime soon.

In other words, it is reasonable to suppose that since the start of the credit crunch, gold was a bubble, driven mainly by fear; now that fear is subsiding, the bubble is bursting, as all bubbles do.

One other thing; presumably if gold starts seriously heading for $780 the next thing that will happen will be that yields of long-bonds will start to go up, according to me at 2% the 10-Year US Treasury is 50% over-priced; looks like perhaps the cost of running a persistent budget deficit might be set to get more expensive than in the recent past.









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