The Gold Market

The charts are playing tricks. A bear trap in April stopped short of turning into an all-out bearish failure with a bull trap in July.

In English, please? The bulls got suckered.

Gold prices fell through their $850 May low now, which means that I was wrong to think that the market had discounted a reversal in oil and the dollar, both of which we fully expected.

But could the market be setting up the bears here?

The last time that we saw two false signals in a row was in 2004, when a marginal new high reversed sharply and turned down to break a key support level, trapping the bears before turning up for good. Interestingly, this happened when Greenspan started his tightening campaign.

It is significant that he didn’t have to deal with a financial and economic crisis, and that his gradual rate increases didn’t do anything to gold, anyway — though they were enough to derail the housing boom.

Today’s Fed is constrained from even a small tightening by the condition of the economy.

Of course, we’ve already had two false signals in the chart, so if this is a bear trap it’ll be the third, which would make it different than in 2004, or at any other juncture in this bull so far.

The gold stock charts tell a more bearish story.

Now, you must keep in mind that while deceptive moves have been rare in gold itself over the course of this bull market, bear traps have been common in the gold share averages — especially the Amex Gold Bugs Index below. For the record, a bear trap is a move, like a breakdown, that suckers the shorts; a bull trap is a move that suckers the bulls:

A bear trap has occurred as a false breakdown in the chart on at least three noticeably separate occasions — 2001, 2005 and 2007. In each case, a bullish move followed immediately. I don’t know if history will repeat itself, but the record says breakdowns in the HUI are a buy.

For the Love of Gold

I keep telling you, gold is next! No one believes it yet. Who can blame them?

We all would have done better owning oil stocks, at least after 2004. In fact, you would think the only reason gold ever went up is because of oil. But you’ll find some truth in every lie.

Undoubtedly, energy is vitally important to the economic engine of growth.

It’s used in every imaginable process. Oil is important only because it is the most convenient source of this energy, but tomorrow, it might be something else that does this job. Gold, of course, is jewelry. It’s not technically money, except in select circles. But I want to draw your attention to the need for money…it is just as vital to the economic engine as energy.

Given the record of fiat money, invariably the debate will shift to the best kind of money in the same way that it currently revolves around the best kind of energy.

So what would it take to see the same love in gold that we saw in tech stocks in 1999, the housing market in 2003-05 or oil recently? The answer is simple: More of the same…

You will see it in gold when all the usual anti-gold arguments fall flat on their faces… when people no longer believe that the “modern-day” central bank has a handle on inflation and interest rates; that inflation is “caused” by oil, growth or a shortage of goods; or that prices will one day come down.

You will see it when people realize that the bubble in commodities is really a destruction of confidence in the medium of exchange. Yes, this can get overdone, like anything else in the market. But unlike a specific bubble, it will repeat itself generally, against some other asset, commodity or maybe all goods.

Why?

Simply because the central bank and government are afraid to address the root cause.

All that the central banks have to do is abandon the boom by letting the market determine the proper interest rate level. This is the only lasting solution to the current inflationary quagmire.

They won’t do it. The short-term costs are too high, and rise with each new asset bubble.

No, the bull market in gold is not over.

The best is yet to come.

Top 10 Reasons to End Cheap Gold

I can understand why investors are selling their large-cap gold stocks. They aren’t making any money — at $900 gold! And they’re trading at 20-50 times earnings. Still, while the rising cost of producing gold is trouble for gold stocks, it is also one of the most bullish factors underpinning gold values.

Effectively, $700 gold would be as catastrophic for the industry today as $300 gold was in 1999.

With jewelry demand alone, the supply side is already tighter than it is in oil.

As I went through my 18-point model, I was looking for reasons to buy gold that have not been widely discounted, aside from the big one above — i.e., in which the masses wake up and fall in love with gold:

• Cost inflation slowing down development pipeline, hence future production growth
• Political risks in frontier countries also shrinking available supplies
• Faltering global economy persuading central bankers to abandon tightening plans
• Soaring government deficits
• Saber rattling between Iran and Israel and other geopolitical tensions heating up
• Another GLD ETF just listed on Hong Kong Exchange
• Some countries already experiencing crackup and heightened gold demand
• Shrinking official gold supply
• Seasonal trends turning bullish again into the new year
• Large producer Anglo has yet to cover all its hedges.

Regards,
Ed Bugos
September 2, 2008