The Case for Gold
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PLEASE NOTE THAT THIS INFORMATION EXPRESSES THE VIEWS AND OPINIONS OF SEABRIDGE GOLD MANAGEMENT AND IS NOT INTENDED AS INVESTMENT ADVICE. SEABRIDGE GOLD IS NOT LICENSED AS AN INVESTMENT ADVISOR.
Gold Market Update: The West Is Losing Control of the Gold Price
Gold Market Update: The West Is Losing Control of the Gold Price
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Signs of Stress in Credit Markets
Like passing a major accident on the highway, investors are fixated on the stock market. We urge you to pay at least equal attention to credit markets. QE (Fed purchases of assets) had its most important impact on credit markets...slashing interest rates, expanding credit, lowering credit standards, weakening covenants and encouraging excessive risk-taking in a reach for yield. We expect the most important impact of QT, the Fed sale of assets, will therefore also be seen in credit markets.
Markets Reject the Fed?
On Wednesday, the Fed raised the Fed Funds rate by a quarter point as expected. The FOMC statement was suitably 'dovish' by reducing the consensus forward guidance on future rate hikes from three to two. The Fed also signalled that its Quantitative Tightening program would continue on "autopilot" as planned. The response was not what the Fed expected. Stocks fell hard and bonds soared.
The Gold Market Is Turning (We Think)
As we have noted, markets are deep into what we have called the Tariff Trade based on the assumption that Trump would win his trade war with China and that he would do so before it had any serious negative impact on the US economy. The Tariff Trade was to go long certain US equities and the dollar and short the yuan, commodities and gold. The result? As many commentators have noted, the gold price has been tightly correlated to the Chinese yuan since the trade war was initiated by President Trump six months ago.
Why the Next Market Crash Will Not Take Gold Down
The global financial crisis of 2008 was essentially caused by excessive leverage, a loss of confidence in real estate credit and a resulting sudden collapse of liquidity in the financial system. The central bank response was to lower interest rates and flood markets with liquidity. Since then, debt loads have increased more than 30% and the percentage of higher risk credit has also grown sharply. Many analysts believe that another crisis is possible due to a combination of enormous leverage and deteriorating credit standards. What will happen to gold if we have another financial crisis?
For Gold, It's All About the Dollar
Positioning, sentiment and market structure favour a powerful rally in gold. The COTs released by the CME on September 7, 2018, show the gross speculative short position grew 1.3% to 213,259 contracts, just shy of the all-timer record set two weeks ago. On a net basis, speculators are short 13,500 contracts, the largest short position since December, 2001.
Is Gold Now A Beach Ball Under Water?
The CME COT report of July 27 shows non-commercial gold shorts have suddenly spiked to a 25 year high. Over the past five years, every similar spike in short interest (red arrows on the chart below) has led directly to a short squeeze rally in the gold price, with an average gain of 12.5%. Why should this time be any different?
Moving Towards a Reset
Gold is the ultimate safe haven, for two simple reasons. First, its total above ground supply only grows 1.4% per year, no matter what anyone does (and even this rate of increase is starting to fall as production levels have peaked). Second, gold is final settlement for the payment of obligations; it is universally accepted as itself, in physical form, not needing to be translated into someone else's currency.
Looking for a Turn in Gold
For nearly four months now, gold has been pressured lower by a rising dollar; the inverse correlation has been almost exact. Gold has dropped 5.2% from its January 25, 2018 close of $1362 to its May 16 close of $1291.50. Meanwhile, the US dollar index has risen 5.4% from this year's low close of 88.50 on February 15, 2018 to its close on May 16 at 93.26. In the past few days, shorts have jumped in to press their luck, judging from the increase in CME open interest while the price is falling.
Looking Bullish for Gold
It now appears that the gold complex has successfully tested support. Gold held above $1305, the low for the year set on March 5 and above the psychologically important level of $1300. GDX, the gold stock ETF, held above the December 2017 low of $21.25. No new lows support the potential for an upturn. Gold closed up $33 for the week at $1349.90, well above its 50 day moving average at $1331.
Gold Bull Market in Waiting
Where is the gold bull market that we predicted would begin about now? Here is our broad-based overview. The financial markets continue to expect an aggressive Fed going forward with four — even five — rate hikes this year and a continuing shrinkage of its balance sheet (Quantitative Tightening). Given this, gold has held up pretty well, essentially range trading, but the gold stocks have suffered because they are leveraged calls on gold that only 'work' with expectations of a rising gold price