The gold vigil

I’ve said before that investing is more about psychology than about fundamental valuations, numbers and metrics. In the case of residential property’s evil “twin” brother, gold, this is more true than ever. Regular readers know that I am watching out for signs of the current bull market in gold becoming an out of control bubble. In my previous article on gold, I discussed two new developments (central banks buying gold, gold mining executive saying “the fundamentals no longer apply”) and now today I bring two more plus a visual case that the trend may not be over.

Soros turns around 360 degrees
George Soros, the 80 year old billionaire who is on record as saying that “gold is the biggest bubble ever”, recently sold his $800 million SPDR Gold Trust ETF stake in the precious metal (derived from regulatory disclosure documents)

George Soros sold most of his holdings in the bullion-backed SPDR Gold Trust and iShares Gold Trust funds in the first quarter, while buying shares of mining companies Goldcorp Inc. and Freeport-McMoRan Copper & Gold Inc.

Soros’s fund held 49,400 shares of SPDR Gold Trust as of March 31, compared with 4.721 million at the end of the fourth quarter. The New York-based fund sold all 5 million shares it held in iShares Gold Trust. Soros bought 301,300 shares of Freeport-McMoRan and 7,600 of Goldcorp.

Speculation as to this move by the well known guru is very bullish, as explained here by GoldCore:

There is of course the precedent of other hedge fund managers , such as David Einhorn, who have also sold their gold ETF holdings but bought physical bullion in allocated accounts due to a concern about counter party and systemic risk.

It is quite possible that Soros’ fund has adopted a similar strategy.

This would allow Soros to discreetly accumulate bullion away from the public and media spotlight that result from SEC filings.

Soros has admitted he is in no longer in the “deflation” camp, regarding inflationary pressures as the greater probability. So far his take has been correct, with recent inflation figures from the EU, UK and US “surprising” economists and commentators alike, as very low interest rates and QE programs around the world continue to take their toll on monetary stability.

Interestingly, Bill Gross’s PIMCO – which recently dumped all of their US Treasury positions – is now a bullish proponent of the shiny metal. PIMCO’s new $1.2 billion equity fund has announced its largest position is actually in gold, for “protection against what can go wrong.”

HK Gold Trading

This development is very relevant for Australian institutional and retail investors alike:

The Hong Kong Mercantile Exchange (HKMEx) has received authorisation from the Securities and Futures Commission and will make its trading debut on May 18, 2011 with the 1-kilo gold futures contract offered in US dollars with physical delivery in Hong Kong.

The ATS authorisation grants HKMEx the right to offer market participants, through its member firms, the use of its state-of-the-art electronic platform to trade commodities. The Exchange will begin trading with at least 16 members including some of the world’s largest financial institutions as well as several well-established brokerages in Hong Kong.

The initial debut yesterday was very quiet, but is expected to pick up in trading volume. This provides gold with better competition in world markets, as the previous sole supplier of tradeable contracts – COMEX in the US – has been notorious for hiking margin requirements during surges in precious metal (particularly silver) prices, which has definitely not added to price stability. It is unclear whether HKMEX will act in a similar manner with it predominately Chinese clients.

Gold and Oil megatrends

I’ll finish with this very interesting chart from Colin Twiggs (Disclosure: I use his charting software, but receive no payment in kind for showing it here)

Astute readers will notice the trendlines begin around the time of the Lehman Brother’s collapse and subsequent Wall Street bailout in 2008/9. It also covers two runs of Quantitative Easing and “lite” versions in between, and shows remarkable resilience. This chart highlights how the very concept of inflation is hard to define: is price rising because of increased fundamentals (less supply, more demand) or because of an increase in the supply of money itself without a commensurate rise or deterioration in the underlying fundamentals?

Whilst both commodities have undergone a correction in the last month, the bulls will wager that this healthy within a bull market phase. But is this market still reliant upon uncertainty and continued QE from the Federal Reserve to continue its “inexorable” rise?

Disclosure: The Prince is a full time equities trader, occasionally trades non-physical gold (both long and short) and holds physical gold as part of his family superannuation fund. The article is not to be taken as investment advice and the views expressed are opinions only. Readers should seek advice from someone who claims to be qualified before considering allocating capital in any investment.

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  1. To what extent are the same systemic risks that created the property asset mess hiding within the gold price? The underlying leverage may be harder to see in the case of gold (and other PMs) but really this is potentially just another asset that loose leveraged liquity can call home…for now…while the price is going in the right direction.

  2. The Real Dank Castle

    Are you watching for signs that paper is in an out-of-control bubble? It doesn’t seem so.

      • The Real Dank Castle

        True, sir! Nonetheless, gold has had a traditional role in human exchange, aside from any attachment it might currently have to the commodity bloc.

      • The recent digging up of old gold coins in Albany WA is interesting news.

        Physical gold is a different kettle of photons to the virtually traded stuff. But let’s not be hasty is saying its perfect – no true monetary standard ever is.

        But is has to be better, by default, than anything contemplated and regulated by those who think debt doesn’t matter.

        Ive said before, paradoxically going into the 21st century, gold’s place as a monetary standard (at least as representative money) has a better chance of succeeding than in the 20th and 19th centuries (where industrialisation and rampant growth overtook golds millenia long stability).

        MArk – I’m glad someone got that joke. Dilbert rocks.

          • Actually both types of debt are considered not to matter by the majority of central bankers – save maybe the Germans.

            They consider it either just a stock (i.e they focus on the flows within the economy) or just private debt that is owned by someone else.

        • Ranier Wolfcastle

          Who says debt doesn’t matter? Everyone is getting very agitated about debt as far as I can tell (i.e. they seem to think it matters).

  3. i dont understand how at some point the US doesnt default. they have already buried themselves and none of this considers pension liabilities. most countries throughout history with debt:GDP ratios in excess of 80% default, and lets not talk about japanese tsunami/shitstorm at 200%!! i am long term gold bull, but the fact that “taxi drivers” are talking about it and the moronic central banks that were selling at 300/oz and now buying back at 1200-1500/oz does concern me. as does soros selling as i have a lot of time for his philosphy. short-medium term looks very uncertain. i prefer the big miners like NCM than physical or contracts.

    • ” dont understand how at some point the US doesnt default”

      they are the reserve currency and can keep prinitig money. Can’t default if you can keep printing….the problem is that it doesn’t solve any underlying structural issues in the economy to print, it just exacerbates them. They can’t default if they don’t want to, but they will print themselves into poverty if they keep doing it.

      Sometimes a default is just what the doctor ordered. It’s very very very bad for a while, but everything resets and you can have a real recovery in time.

      • Endless printing (ie, deliberately devaluing the buying power of the currency in which you are paying your creditors) IS to “default”.

        Amazes me that some people still fail to recognise this.

          • although i will add the increase in bilateral trades using non US dollar denominated assets/substitutes gets around the reserve issue. as does the emergence of electronic currency. ie the google/paypal bank.

    • Ranier Wolfcastle

      There is no operational reason why they can default – for reasons given by JC below. However they can default simply by choosing to default but that is political not operational. There is of course de-facto default where you inflate away your debts. This seems to be what has the mob frothing at the mouth but currently inflation is low. Watch for signs of deleaveraging ending (not likely any time soon IMO)– that will signal the time to start worrying about (excessive) inflation.

  4. In December 2009 when Soros made his gold is the ultimate bubble the market reacted, and he went on to hold $663M at the end of December 2009. He sold this lot two months ago without a fanfare, and even now the market knows there has not been a big change in the price of gold.

    I agree that he’s now most likely moved to physical just as the University of Texas endowment fund did. If a crisis did occur you wouldn’t want to be in an ETF. Additionally, there are many more industry funds electing now to own physical.

    • I wondered whether this was deliberate, in that the author thinks Soros has replaced his sells in the ETF’s with a physical buy.

  5. Prince, it’s simple at this point. It will hover at it’s current levels until:

    1. Europe looks like coming out of it’s woes OR the USA shows real signs of recovery.

    2. QE3 is announced.

    1. = it will retreat.

    2. = it will go over $2,000 an oz.

    The other scenario is global inflation takes hold somewhere down the line, and again it holds firm or rises steadily.

    One other very important sign that GOLD may have reached a top, or is close to it is the merger activity within the sector this year and last year.

    – NCM taking out LGL
    – Redback being taken out
    – KCN taking DOM

    more recently

    – SBM bidding for CAH
    – The Chinese taking a large stake in GDO

    there are many more examples, but the market is indicating we could be at the top of the cycle.

    However i do not see gold as a bubble at this point, it will probably turn into one if we have a real debty crisis in the Euro zone, or perpetual QE. At the moment the strength in POG has mirrored the strength in other commodities.

    Under the current conditiions it is ver difficult to see GOLD retreating below $1,000 anytime in the next FIVE years. The world isn’t going to solve it’s problems that quickly.

  6. Thanks for another excellent analysis Prince. The HK trade opportunity, with physical delivery option in HK, is rather interesting 🙂

    “(Disclosure: I use his charting software, but receive no payment in kind for showing it here)”

    Legend. Champion. I love a stickler for honesty and transparency.

    Let’s have more of it, I say.

  7. Gold has a huge problem as a currency because there are not enough of it. Even when extra production capability become available through population growth or technology, they cannot be utilized unless more gold is dug up.

    Inflation may be bad, but massive starvation and social unrest is far, far worse.

    The price of commodities, gold and oil has become linked to how much it cost to speculate in the market. That is the new ‘fundamental’.

    The US Government can default if the Republicans decline to raise the debt ceiling, like how they didn’t pass TARP in the first go. We’re witnessing a game of high stake ‘political chicken’ where most of the actors don’t understand the issue at stake. It will be a train wreck.

      • Sandgroper Sceptic

        Peak gold has not occurred. Unlike many other commodities all the gold ever mined is still around (barring a few buried hoards that have been lost through time). I would agree that peak gold production has passed.

        As to there not being enough gold for currency – I disagree. If you put a much higher price on gold then there is heaps of it for currency. What is the total value of all gold held now, at today’s prices – $8 trillion?

        • Ranier Wolfcastle

          that is what I meant. “peak” refers to production when it is used in the context of commodities, e.g. peak oil.

        • Try as I might, I cannot fathom how a gold standard with a variable rate of exchange will work. How can it work if the exchange rate is not pegged? If the rate is variable, isn’t that exactly what we have right now?

        • No offence Ronin, but you need to do some historical research. Funnily enough, we’ve only had floating currencies for the last 30 years. Before that – almost 150 years of fixed rates during the Industrial revolution. Before that – around 3000 years (gold made sense then because population growth and economic growth was effectively stable or even deflationary – the reason behind golds increased instability in the 18th and 19th centuries was the inflationary impact of the Industrial Revolution)

          Most don’t comprehend that there were in fact 3 types of “gold standards” – bullion, exchange and specie throughout the history of money (leaving aside the role of silver and other commodity monies)

          They are each different and have different outcomes based on the current economic/monetary system.

          A debate along these lines can only be done in context of what type of standard would be adopted/transition etc.

          • The historical systems prior to paper money used physical metals. The exchange between other metal to gold is fixed, although the government of the day can debase the currency by changing the alloy mix, or the exchange rate between the lesser metals. There were really good reason why the world moved to paper money instead.

            Suppose we start off with an economy with 100 people. Each person earns 1 gold coin a day. At the end of the day they pay 1 gold coin for food/lodging, which is then recycled. What happens when there are 200 people, but only 100 gold coins? In theory, each person should adjust to earn half a coin each day, pay half a coin for lodging/food, and everyone is happy. In real life, the extra 100 people remains unemployed and dies from cold/starvation. This is why precious metal was so vital to the old world economies : they don’t generate wealth, but rather they allow wealth to be generated.

          • “Before that – around 3000 years (gold made sense then because population growth and economic growth was effectively stable or even deflationary”


            Well, kind of wrong. I *highly* recommend a book titled, “The Great Wave – Price Revolutions and the Rhythms of History”. Traces real commodity price movements over the last 800 years.


            “… the reason behind golds increased instability in the 18th and 19th centuries was the inflationary impact of the Industrial Revolution)”


            The real reason behind gold’s increasing “instability” in the 18th/19th C was due to the rise of the Euro-Anglo Rothschild family bullion trading company, thence bankers-to-kings, thence Central Bankers to sovereign nations.

            Funding both sides of multiple kings/nations wars – (ie), sending them broke, thence beholden to their bullion bankster, thence under the thumb to agree to install Rothschild as Central Banker with exclusive currency issuance rights (at interest) – this is the true reason for the *apparent* instability of gold prices in the centuries you mention.

    • I say put it side by side with fiat and acceptable for all taxes, goods and services – let the market choose which form of money it prefers,_Feds_Hoenig_Correct.html

      Jim Rickards-
      “It’s hard to see how gold could do worse and history says it will do much better. One need only look at inflation, unemployment and economic growth in the period 1870-1914 versus 1971-2010 to see the clear beneifts of gold which seems to produce both consistent growth and low inflation notwithstanding occasional business cycle volatility.””

      “One clear implication is that given the amount of money printing in recent years, a much higher price of gold is required to create an equilibrium between the current money supply and the amount of official gold available to support it.”

      “Estimates of that higher price can vary over a wide range depending on what definition of “money” you use and what gold to paper ratios you require.”

      • Alex Heyworth

        “I say put it side by side with fiat and acceptable for all taxes, goods and services – let the market choose which form of money it prefers”

        – impossible. The definition of a fiat currency includes it being the only means by which tax liabilities can be extinguished. That is the fundamental basis for a fiat currency’s value.

  8. Gold has come nowhere near its inflation-adjusted 1980 value, and very few people own it. I’ve never met a taxi driver who knows anything about it. Talk of a bubble is simple inane.