Gold spiked 2.7% last week as investors anticipated more ECB easing; and finally, QE3 from the Federal Reserve as Friday’s jobs report (+96,000) disappointed. Gold closed $1,737.60 an ounce for the week, up from a recent trough of $1,547.60 an ounce in late June.
In late 2000, I purchased a substantial portion (at least for me) of physical gold and silver, and precious metals mining stocks. Gold traded at just $275 an ounce, with silver at just over $4 an ounce. I saw investor capitulation all around–including the mining companies themselves who were hedging (shorting) as much future production as they could. I distinctly remember hearing about folks selling gold or gold mining stocks that they had held for over a decade. With the Greenspan Fed starting to ease monetary policy, I figured that purchasing gold would be a low-risk option–both as an inflation hedge and for speculative purposes.
Since then, gold has been on a multi-year bull market. There are many reasons–central bank easing, heightened jewelry demand from fast-growing emerging market countries such as China and India (jewelry and investment demand from these two countries make up 45% of world’s demand), the ease of investment with the creation of the gold ETF GLD, and the best of them all: investors tend to buy what went up the year before–momentum is by far the most predictive factor of future prices. Gold is valued and coveted by all cultures. It captures the imagination of royalty to treasure hunters to pirates and commoners. Over 5,000 years of history suggest that nearly all cultures used gold as the primary means of exchange. Paper currencies have failed for the most part.
In light of Friday’s disappointing job numbers and the threat of a “fiscal cliff” later this year, Fed Chairman Bernanke will most likely implement QE3 before the end of this year. Make no mistake: Bernanke is a scholar of the Great Depression–not just locally but of the Great Depression in other Western countries. His main thesis: That countries who devalued or left the Gold Standard ahead of others fared the best. In fact, when Great Britain left the Gold Standard and devalued in September 1931, the country started its recovery, while the U.S. economy worsened. As gold left the U.S. in favor of cheaper currencies (i.e. the Pound Sterling) that month, the Federal Reserve responded by hiking its policy rate by 1%. The Dow Industrials plunged 30% that month, while hundreds of banks failed. September 1931 still qualifies as the worst-ever month for U.S. stocks, even when including data going back to 1815 (source: Ibbotson). Bernanke will no doubt ease–likely by purchasing Agency securities–which should provide a significant tailwind for the U.S. housing market as housing prices have lately been rising (on a side note, we regard the latest talk of the U.S. potentially shifting back to a Gold Standard as impractical, as Keynes shrewdly noted 80 years ago).
The structural bull market in gold is intact. QE3 should provide further support. Recent technicals show that gold is once again trading above its 200-day moving average; with the 50-day moving average quickly rising to meet the 200-day moving average. Gold technicals is thus bullish.
The weakness in gold earlier this year isn’t a surprise–given the economic weakness in both India (which suffered one of its most dramatic currency devaluations) and China (note that Q2 2012 gold jewelry demand declined significantly, as per below table from the World Gold Council) . However, the former is stabilizing; and with Chinese inflation remaining steady at 2%, there is no question that the People’s Bank of China will cut rates again before the year is out. We remain bullish on gold for this year, and in 2013.