Gold Strikes Out on Its Own
Chris Temple, Editor
The National Investor
www.nationalinvestor.comFor several weeks, though I have maintained the heavier recommended weighting in gold equities for my subscribers that I went to back in the Spring, I have been concerned about the behavior of gold. Even while gold mining shares have been on a torrid run, the metal has failed to confirm the bullish scenario currently priced into gold equities. Further, in a recent report on the gold sector, I pointed out that the economics of the industry generally have deteriorated over the last year; among the key reasons are the weakened U.S. dollar (which hurts non-U.S. miners) and rising energy costs.
I still feel that the gold shares in general have priced in a much better scenario than is warranted by the current gold price, and have suggested that—without substantial gains in gold—they were vulnerable to another sharp sell-off such as that seen last Summer and early Fall. That is still my view; however, gold’s price has strengthened over the last several days.
More important, though, is the fact gold has been moving steadily higher in spite of a rebound in the U.S. dollar index (see the chart below.)
While the greenback clearly remains in a long-term down trend, the fact that its recent rally has not kept gold from rallying is encouraging. The flip side of this is that gold has rallied apart from the euro, which has just hit new four-month lows against the dollar following the release of horrid economic news from Germany, Italy and France; three countries that together comprise about 70% of the euro zone’s total economy.
Though the rallies in both the dollar and the gold price seem contradictory to some, the same core reason is responsible for each: the perception that the U.S. economy’s growth is accelerating, and maybe sufficiently so to “rescue” floundering economies in Europe and elsewhere. That the dollar has rallied against the backdrop of a likely US federal budget deficit in FY 2003 approaching $700 billion (when you include this year’s raid on the Social Security Trust Fund) goes to show that, more than anything else, market participants want GROWTH. It matters little how much debt is taken on in achieving that “growth”; if, for now, it looks as though the US economy is going to move ahead at a faster clip, little else matters.
For much of the first half of the year, such a resurgence for the US economy was in considerable doubt. As far as I’m concerned, it still is, given the still-shaky fundamentals, recent rise in long-term interest rates, continuing job losses, high energy prices and more. However, against a stagnant European economy, it appears to be “no contest”; thus, foreign investors in particular, buying into the (incredibly) continuing notion that the Fed will make things right are putting money back into U.S. assets, as well as favoring the currency itself again of late. Gone temporarily is the desire witnessed some months ago to favor currencies such as the euro which, though less attractive in the “growth department,” entails less downside risk, particularly from geopolitical and terrorism-related shocks.
The growth case is helping gold move higher as well. As the markets have increasingly bought into the idea that the Fed will be successful in reinflating economic growth, the new commodity bull market generally has strengthened. This can only benefit gold; as I’ve often said, I am dubious as to gold’s chances if a new period of economic weakness were to put downward pressure on most commodities, including gold. With the growth scenario (and its corollary, rapid money growth) taking somewhat stronger hold, gold ultimately benefits for the simplest of reasons: DEMAND.
It appears as though a few more people are looking at reduced mine production, stable central bank selling, continuing producer hedge buy-backs and the dearth of new hedging as bullish for gold as a commodity, regardless of what the dollar does. To the extent that the perception of greater growth is also at work, this can only argue in favor of higher gold prices, as jewelry and fabrication demand presumably will begin to recover from their recent worrisome levels. This is a positive development, and one which will hopefully last for a while.
Adding a little “kicker” to gold this week were foreign incidents that demonstrate there are still unknown dangers to the rosy scenario that people have about future economic growth, and the very peace of the world. As last weekend commenced, a major pipeline in Iraq was sabotaged, removing nearly 1 million barrels of daily oil flow from available supplies a mere 48 hours after the pipeline became operational. A major hotel housing United Nations officials was bombed in Baghdad. A new suicide bombing in Jerusalem threatens to derail a shaky cease-fire. All these have helped to bring some safe haven buying back into gold this week.
Combined, these factors have helped move gold’s price to within a whisker of breaking above its descending resistance line, as shown on the chart above (NOTE: The trend lines and comments have been added by Yours Truly, not Kitco.com) While it’s been a healthy sign to see gold’s support level moving upward since the April lows around $320 per ounce, it’s critically important that the yellow metal break out to the up side.
In spite of the healthier demand for gold as a commodity, the market is still driven too much for my liking by hedge funds and other short-term speculators. These are the types who have contributed to gold’s rise more so over the last few days, as the previously-mentioned incidents in the Middle East have increased the metal’s safe haven allure. Gold bugs will take higher gold prices any way they can get them; but keep in mind that, when this short-term money left after earlier rallies this year, prices declined quickly.
One of these days, increased physical buying as well as a broadening investment demand for gold from Main Street will take some of the ability to run the gold market ragged away from the “pros.” When that day comes, it will be safer to be a “buy and hold” investor in the gold arena. Until then we must remain a little wary, in spite of gold’s better behavior versus the currency markets. Further, when it comes to the gold shares, we can indeed keep enjoying this ride upward, but with the realization that a failure on gold’s part to break to the upside in convincing fashion could again pull the rug out from under them. If gold fails, it would be a shame to once again—as most people unfortunately did in 2002—surrender a good portion of the recent healthy gains. As with the stock market generally, keep in mind the old adage even with gold shares that “Bulls make money and bears make money—but pigs get slaughtered.”
-Chris Temple
www.nationalinvestor.com
August 20, 2003
(NOTE: Chris has just completed a comprehensive update on the gold sector which, among other things, includes a look at gold’s fundamentals, investment demand, the future monetary role of gold, how to select viable gold companies for investment/trading purposes and more. As an introduction to The National Investor, he’s offering a FREE COPY to our readers; to get yours, send a request via e-mail to chris@nationalinvestor.com.)
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