Precious Metals: Blood in the Streets

Written by John N. Katz, The Goldwatcher

‘Indeed, there can be no other criterion, no other standard than gold. Yes, gold, which never changes, which can be shaped into ingots, bars, coins, which has no nationality and which is eternally and universally accepted as the unalterable fiduciary value par excellence.” French President Charles de Gaulle 1965

‘The most striking thing in gold’s long history was that it led most of the protagonists in the drama into the ditch …  Midas … Croesus … de Gaulle and the gold bugs of the 1980s were all fools for gold chasing an illusion.’ Peter Bernstein : Author, The Power of Gold

Reverse Momentum:

12th April 2012 : Gold Price Chart courtesy Kitco

Gold fell today (Friday, 12 April 2013) to $1489 shedding $73.20 (4.63%); Silver lost $1.50 (5.35%); Platinum $42.90 (2.74%); Palladium 3.52%; crude oil 2.72%; and copper 2.13%.

Since spiking to $1921 in September 2011 gold prices have traded in a range between $1,525 and $1,800. Today’s plunge has gold down at a level where it’s technically vulnerable and could even go into free fall before stabilizing.

We know the fall was fueled by a 223 tonnes sell-off in holdings of gold in exchange-traded over the last months that practically eliminated total increases over the last year as illustrated in the following chart:

Exchange Trade Fund Holdings

Source: Hard Asset Investor

Today’s sell off sell off was also spurred by a Goldman Sachs report advising clients to short gold discussed later in this article. Gold’s safe haven credentials have been damaged but, as precious and base metal prices, oil and other commodity prices were also affected, before calling the end of the gold bull market we will need more information on the extent to which today’s panic selling led to margin calls and forced sales.

Goldman’s bear market warning:

Two days ago Goldman Sachs analysts cut their 2013 gold price forecast from $1,610 to $1,545 an ounce, trimmed their 2014 forecast to $1,350 from $1,490 and set year-end targets of $1,450 in 2013 and $1,270 in 2014. The analysts also advised clients to start a short Comex gold position, targeting $1,450 with a stop at $1,650 supporting their analysis with comments including this extract:

‘Given gold’s recent lacklustre price action and our economists’ expectation that the acceleration in US growth later this year to  above-trend pace will support US real rates, we are lowering our USD-denominated gold price forecast once again. Our new forecast is further below the forward curve with year-end targets of $1,450/toz in 2013 and $1,270/toz in 2014. As a result, we recommend closing the long COMEX gold position that we first initiated on October 11, 2010 …. while higher inflation may be the catalyst for the next gold cycle, this is likely several years away….While there are risks for modest near-term upside to gold prices should US growth continue to slow down, we see risks to current prices as skewed to the downside as we move through 2013. In fact, should our expectation for lower gold prices continue to prove correct, the fall in prices could end up being faster and larger than our forecast,…’as aggregate speculative net long positions across COMEX futures and gold ETFs remain near record highs.

Fundamentals affecting gold:

Previous postings in The Goldwatcher blog have already alerted readers to Jeffrey Christian’s forecasts for the price of gold to fall as low as $1400 before recovering. However there are a range of factors that could re-ignite demand for gold to consider. In a bid to avert a euro crisis George Soros has been in Germany with a proposal for Eurobonds. And, while we respect Goldman’s analysis on the key fundamental issues, we are also guided by what George Soros has to say. And, when he sounds the alarm on Europe shorting gold might not be the smartest idea. Before leaving for Germany, in an interview conducted in Hong Kong, Soros also made the point that investors were disenchanted with gold as it hadn’t done well during the euro crisis. But he also said he didn’t expect the price to crash as central banks were buying gold and would continue to.

I also subscribe to the Roubini Monitor. Their lead article yesterday addressed increasing anxiety in Germany over risks with Italy – a subject highlighted and extensively canvassed by me recently.

Inevitably crashes as severe as the one seen today damages prospects but ,as the gold price settles down , investors will focus again on the key fundamentals that support demand for gold including:

• Central bank gold purchases running at a 48 year high and expected to continue;

• Debasement of paper money currencies from causes including money printing, breaches in monetary unions and political gridlock

• The risks of bank runs in Italy and the political system breaking down completely;

• Steps being taken by China to elevate its currency to a reserve status that will affect the privileges and benefits accruing to the US as a result of the $ being the world’s dominant reserve currency;

• Global monetary reflation being undertaken on a grand and unprecedented scale;

• An existential crisis threatening the euro and the European Union;

• The case for Sovereigns to print money to fund deficit spending being advanced by influential commentators, including Lord Adair Turner; a

• Nuclear proliferation empowering unstable regimes.

• Costs of gold mining now at levels that support higher prices.

We have experienced similar corrections before:

Gold Price Chart for the year 2009 : Courtesy Kitco:

Gold was on course to breaching the then magical $1000 threshold at the end of May 2009 when Goldman Sachs published a Research Note ‘The US Dollar – As Good as Gold.’ The report set out why they did not recommend gold at the time .

Unsurprisingly within days of the research being published the gold price crashed from $975 on May 29th to $919 on 22nd June. I say ‘unsurprisingly’ not because Goldman’s s analysis was specially insightful or revealing but because when speculators scent blood in the air they panic.

The May 2009 ‘Dollar As Good As Gold Report‘ concluded:

‘With the average cost of production estimated at $500 per ounce, the marginal cost of demand at $700 per ounce and no shortage of gold for real long term use, a price of $950 seems enough to provide mining companies with very attractive returns on their capital.’

The analysts added:

‘…if worries about the debasement of paper currencies persist, or any signs of inflation appear, the demand for additional gold could push prices above $1,250 with momentum driving prices beyond levels ‘beyond any measure of fair value.’

And gold certainly recovered over the year and since then. Further debasement of paper currencies arising from policy and political causes appear to be more threatening now than at any time over recent years.

Motivation, Timing & Strategy:

My research has all pointed to the benefits of owning gold in moderation as insurance against financial market disruption but, like any other investment, gold only makes sense if the motivation for owning it still makes sense, the investment is well timed and is managed according to a strategy.

The quotes at the beginning of this article are included to remind readers:

1: Gold remains the world’s stateless money franchise and is the only physical currency included on central banks reserves; and

2: Speculating in gold has risks.