Gold's Devilish Advocate

By Brad Zigler

In certain circles I'm known as a curmudgeon. Yeah, that's right. Crusty, irascible and cantankerous. Hard to believe, isn't it?

The funny thing is that people on both sides of the hard assets spectrum share that point of view. To so-called gold bugs, my under-exuberance for wildly optimist gold forecasts is anathema. Monetarists, on the other hand, grouse about my metering of the dollar's value against bullion.

No matter what side you line up on, you can't have ignored the $300 rally in gold prices since late October. For the February COMEX contract, that amounts to a 46% increase; pretty much a replay of the run-up that ended last March. That should prompt you to wonder about the odds of gold topping out again.

No doubt, the answer to that depends upon your gold Weltanschauung. But let's play devil's advocate for the moment. What factors argue for a gold sell-off? Or, at least, for keeping a lid on the metal's ascendance?

The Dollar/Gold Dyad

This year, the dollar's provided as much refuge for worried investors as gold. Ordinarily, there's an inverse relationship between gold and the dollar. In the current global disinflationary environment, though, the greenback is proving to be the best nonmetallic haven for global capital. Rising dollar interest rates will enhance the buck's attractiveness. At least until a cyclical reflation of the currency. Yes, there will be a lot of dollars out there. But right now, there are a lot of representations of the dollar-bills, notes and bonds-awaiting redemption.

The dollar's prior inflationary pace was braked well before the price of gold peaked last March. We've yet to see the leading edge of reflation.

U.S. Monetary Inflation And Gold

Dollar interest rates bottomed just before the Obama inauguration and have steadily gained ground since then. Rising rates are like lipstick: A judicious dose can enhance the beauty of a currency; too much, and it looks tawdry. There's nothing tawdry, though, about the 18-point rise in the dollar LIBOR over the last month. It's sustainable and makes the buck even more attractive.

Dollar Interest And Gold Lease Rates

Gold Liquidity

The gold lease market belies the shortage scenario played up by many market pundits. Gold lease rates have been falling precipitously as the contango reflected in forward rates has been rising. Contango exists when supplies are plentiful. The current oil market provides testimony of that. The gold market - at least the commercial gold market - gives every indication of being well-supplied.

Overbought Market

Relative strength in gold futures crossed into overbought territory when the spot contract topped $1,000 last week. The peak, if not exceeded, would represent an interim double top and confirmation that the March 2008 high is likely to hold.

COMEX Futures Open Interest

Speculative Aggressiveness

Commercial hedgers are still driving gold futures pricing. Aggressiveness on the part of large speculative buyers has actually waned as prices moved higher. Over the past month, net long speculative positions rose 34% while commercial net shorts picked up 40%.

Essential Question

Think back to the events surrounding gold's March 2008 peak and ask yourself this: "Have economic conditions improved or worsened since then?" I think it's fair to say our financial troubles have deepened. If that's true, and if gold is a safe haven, why hasn't the metal made new highs?

This is by no means an exhaustive analysis, but it does raise essential questions that gold bulls should be prepared to address when making their case for higher prices.

Don't expect to hear the answers in the late-night infomercials hawking gold, though.