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The Bearish Gold Bull

Commodities / Gold and Silver 2010 Jul 14, 2010 - 08:58 AM GMT

By: Neil_Charnock


Best Financial Markets Analysis ArticleI have taken some excerpts from our new GoldOz Newsletter service to construct this article.  Even the hedge funds boys are reportedly dazed by market action after their worst performance in 18 months during May.  Has it been difficult to assess the markets this year?   No it has been extremely hard.   This is firstly because of the political and regulatory changes that are clouding the picture.  The second difficulty is that we are transitioning into a new financial world and I do not say this lightly.  

Take Greece for example where there are riots in the streets and default hangs directly overhead.  They need strong growth to provide an economy that can pay back debt and thereby overcome chronic deficits.  Yet SME’s (Small to Medium Enterprises) have only been able to borrow €85M in the past 6 months to end June this year and at a whopping 22% average interest rate.  In 2009 by contrast they borrowed €900M.

Changes are part of the system and quite normal.  What we refer to is different I assure you.  In general terms most people are chronically bad at change therefore the adjustment will be confusing and painful for many.   What was the old normal and why am I talking about this?  It has huge ramifications for gold that’s why.  I am discussing an essential reason for gold to go up and the timing of such an event.

 Spot Gold chart: 5 years / weekly
Even more than that; I am examining the likely pathway because there is potentially a massive pot hole ahead.

Gold in USD’s looks vulnerable on a technical basis here so be careful.   It is sitting in a bearish rising wedge as shown in this chart.   The black overhead lines on price, RSI and MACD are showing a negative divergence which has also crossed to the negative.

This may not play out in other currencies however the USD is the dominant currency as recognized by the international investment community.  Unless we break above this rising wedge soon there is danger of a deleveraging induced sell off in gold, equities and anything else that has a bid.  This year has marked exceptional volatility due to a gradual deleveraging process which could accelerate at any time if circumstances push the markets over the edge.  If we break to the downside through that rising support line in under the gold price we will have to look for likely support levels.

To ascertain what might cause such an event when the fundamentals are clearly in favour of gold we have to look to the global debt markets.  First of all what was the” old normal”? 

People have been getting accustomed to a never ending diet of debt issuance since Nixon reneged on the convertibility of USD’s into gold on August 15th 1971.  Since then the money supply has exploded along with unsustainable life styles as consumption was brought forward in time.  Most consumers have bought the line that wealth can be borrowed and that you can live the lifestyle you want before you save or earn the money.  They have bought the lie that debt will be there for the taking forever and that governments and central bankers will look after everything.  No wonder we don’t want to face any new reality because we may have to look after ourselves now.

History also shows there was an earlier chapter from 1913 when the US Federal Reserve was formed.  Debt began to explode after 1913 after a remarkably stable 100 years where inflation was not a problem like it has been ever since. 

The new beginning of a brave new world started in 2000 however it accelerated with a down turn in in late 2007 with a justified lack of confidence.   By 2009, after unprecedented monetary inflation the money supply began to contract.  Liquidity has been steadily drying up ever since.  Money supply has begun to contract because the world has maxed out its credit limits.  So have the lenders and now the great credit contraction begins. 

This has the unfortunate potential to turn into the credit squeeze from hell initially forcing massive deleveraging.   This may be great for gold in the longer run because it sets up sovereign default scenarios which will severely damage confidence in global financial markets.   We may make a great deal of money out of gold and eventually gold stocks however the social consequences are highly unfortunate.

In the short term stagflation will be the inevitable result as some asset classes fall sharply (read de-leveraging) while we simultaneously face rising interest rates.  This last point often confuses investors however it will come to pass baffling many and causing them to miss the best opportunities.  This whole situation has profound influence on investing in the “new” economy as well as gold stocks and gold.

The global bond markets have been influenced by huge bond and sovereign funds which amass investor funds and play the bond markets.  This has provided vital capital for corporations and governments alike as the debt bubble grew.  This monstrous pool of capital is now starting to seek a new home and the effect will be immense.  We can take advantage of this capital wave as it seeks yield in a low yield world.

To be clear I am stating that I believe the debt crisis in Europe cannot do anything but spread confirming the IMF’s worst fears as they announce their forecast of 4.5% global growth this year.  Their huge caveat and the massive growth assumptions made by governments startle this analyst.  The largest sovereign funds have declared that bonds are dead due to the absurd volume of issuance due in the next few years.  This is incredibly important because the capital flows and effects will be immense.  Given their past support for the debt markets is no longer palatable it will be steadily withdrawn.   It beggars belief that anybody could believe the cost of capital will not increase dramatically.  Who is going to buy all that debt?   More on this topic and Australian gold stocks is for subscribers only.

Good trading / investing.

Neil Charnock

GoldOz has now introduced a major point of difference to many services.  We offer a Newsletter, data base and gold stock comparison tools plus special interest files on gold companies and investment topics.  We have expertise in debt markets and gold equities which gives us a strong edge as independent analysts and market commentators.  GoldOz also has free access area on the history of gold, links to Australian gold stocks and miners plus many other resources.

Neil Charnock is not a registered investment advisor. He is an experienced private investor who, in addition to his essay publication offerings, has now assembled a highly experienced panel to assist in the presentation of various research information services. The opinions and statements made in the above publication are the result of extensive research and are believed to be accurate and from reliable sources. The contents are his current opinion only, further more conditions may cause these opinions to change without notice. The insights herein published are made solely for international and educational purposes. The contents in this publication are not to be construed as solicitation or recommendation to be used for formulation of investment decisions in any type of market whatsoever. WARNING share market investment or speculation is a high risk activity. Investors enter such activity at their own risk and must conduct their own due diligence to research and verify all aspects of any investment decision, if necessary seeking competent professional assistance.

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