Is gold set for a much brighter future?
The gold price is set in the Comex futures exchange by the trading of futures contracts and not the amount of gold traded in Dubai, India or anywhere else.
Therefore, if you want to read the future of gold prices, the Comex is the place to address your thoughts. Typically it is a rather bewildering place for amateur speculators who generally get their positions wrong, while professional commercial investors control the market.
But over the summer a clear pattern has emerged, and one that has almost always come before a very much higher price for gold and silver.
Basically, professional investors have all switched to the long side of the market, including the most powerful JP Morgan. Meanwhile, smaller speculators have been lured into record short positions, thinking that gold has had it and Wall Street is the only game in town.
All the commercial longs have to do now is tip the market into a mild upturn and all these short positions will have to cover. That is to say buy gold contracts to close off their losing short positions before they get into even more financial trouble.
This should lead to a sudden flood of buyers that will drive precious metal prices sharply higher, triggering phase one of a new bull phase. The long commercial Comex players will win yet again, along with anybody who’s been bright enough to see what is coming.
This phase of a gold bull market takes around three to four months to play out before the wider financial markets are convinced it is happening and then all pile in for phases two and three.
The final phase of a commodities bull market - like the one that started in gold in 2000 is always a price spike, not something we have seen yet.
The collapse of cryptocurrencies last week could be the driver that opens the way for substantial gold price rises as cryptos have distracted speculators from precious metals. So too the recent emerging markets crash, and a growing correction in major stock markets.
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September is usually a much better month for gold with the metal up an average of two per cent since it became freely traded in the early 70s, although it was down 2 per cent in September last year.
The gold price plunged alarmingly late in August, hitting a low of $1,172 an ounce. But this now increasingly looks like the bottom of the dive from its April high of $1,375.
One worry among the smaller speculators is whether this price plunge might get worse before gold’s next advance.
That happened in the last global financial crash when gold sank with all the other ships, albeit it was the best performing major asset class, apart from silver, after that crash.
However, this time is somewhat different. In the past the Federal Reserve has responded to stock market crashes by slashing interest rates by up to 5 per cent.
With interest rates currently still very low, the Fed cannot do this without taking them into negative territory - something that has never happened before in the US but has in the EU.
Anything even close to negative US real interest rates (that is the base rate minus inflation) would be hugely positive for gold as the metal does not pay interest, but then again cannot deduct negative interest either.
Indeed, this is unlikely to be like 2008-9 for gold prices - when prices slumped deeply with the stock market - because gold is coming off a near 50 per cent price correction from 2011-15, and not falling from a record high as it was back then.
Instead, turn your thoughts to January and February 2016 when the Dow lost 2,000 points and gold shot up $200.
Even if there is no US stock market correction, then the Trump administration is clearly putting pressure on the Fed to stop raising interest rates and strengthening the dollar further before the upcoming mid-term elections. That would also be good for gold.
Likewise the growing emerging market currency crisis - a direct effect of the dollar’s rising value - could force the Fed to put its rate hikes on hold, boosting gold.
Also, consider the established link between the price of oil and gold. Oil prices have bounced back from the lows of four years ago and in the past year the oil revenues of the Gulf states have grown by around 25 per cent.
But the surging oil price has not yet brought a commensurate increase in the gold price as it almost always has in the past.
This market anomaly ought to be about to correct itself, particularly as the upward pressure on oil prices is unabated with upcoming supply issues from the renewed US sanctions on Iran, not to mention problems affecting oil’s so-called ‘fragile five’: Venezuela, Nigeria, Iraq, Libya and Algeria. US shale oil production has also peaked and entered a steep decline.
At the same time central banks continue to buy gold. Russia has dumped the lion’s share of its US treasuries this year and continued to buy bullion. Gold buying through the Shanghai Gold Exchange is up 6 per cent to 1,366 tonnes year-to-date.
So apart from Comex price fixing, why did the gold price slump from $1,375 down to $1,172 from April through to late August this year?
Blame the 6.5 per cent rise in the US dollar index over those months. Gold is priced in US dollars and depreciates like any other currency as the dollar rises.
Many currency analysts now think the dollar’s rally is overdone and overdue for a correction. Again the technical chartists can point to the end of a trend, and some fundamentalists say interest rate rises are almost done or actually over, as does the yield on 10-year treasury bonds.
Lastly don’t forget the normal seasonal pattern of gold. Indian religious festivals always tend to give prices a boost in the autumn months. In fact, Indian gold imports more than doubled in August compared with the same month last year to stock up at low prices.
Gold exchange traded products like GLD or SGOL are the easiest and cheapest way to invest in gold. Buying the physical stuff down the gold souk is a storage and insurance headache, and the buy-to-sell spread is higher.
Precious metal investors often leverage up on rising gold prices by buying silver instead. The tighter supply of silver than gold means its price increases faster when precious metals rally.
Silver ETFs like SLV or PSLV, that can be bought through any online trading platform, are even more convenient than their gold equivalents as silver is only worth around one eightieth of the price of gold and investing a large amount creates a weighty amount of the physical metal.
Peter Cooper has been writing about finance in the Gulf for more than two decades
Updated: September 9, 2018 12:55 PM