As the collapse in gold prices proceeds towards the $1,300 level, I suspect speculation will be kindled in the next few days regarding whether the People's Bank of China (PBOC), China's central bank, will step in to take advantage of this "opportunity" to accumulate more gold and thereby put a floor underneath gold prices.
Here is what I believe the Chinese Central bank should do:
A Winning Strategy For China
Traders are hoping and praying that China will step in here and halt the collapse in gold prices. Indeed, many may come to perceive that Chinese purchases may be the only force large enough that can contain the vicious cycle of margin calls, forced liquidations and panic.
What the Chinese Central bank should do is demolish these hopes.
The Chinese Central bank should carefully craft a situation in which a top central bank official is quoted as making the following off-hand statement in response to a question from the press:
"The PBOC has no plans to increase its gold holdings at this time. The PBOC has completed its programmed gold purchases for 2013."
Even just one of these two sentences would trigger a massive liquidation and send gold prices reeling to $1,000 or below.
As prices are plummeting on high volume, the Chinese central bank should quietly and anonymously accumulate gold positions.
The Art of War
This strategy is taken straight from the pages of Sun Tzu's classic, "The Art of War," which advocates meticulously planned misdirection in order to achieve strategic objectives.
This strategy would enable China to achieve two important national strategic objectives. First, from past statements, it is clear that China would like to diversify its central bank reserves away from US dollars and towards a greater percentage of gold holdings. A massive gold market liquidation, exacerbated by Chinese official statements, would give them the perfect opportunity to advance this strategic objective.
Second, if you are going to accumulate gold, you should acquire it at the lowest possible price. Therefore, the above strategy clearly enables accomplishment of the PBOC's diversification objective at the lowest possible price for the citizens of its nation.
The question is what will Chinese officials do about it?
I don't necessarily think that Chinese officials have the wherewithal or the courage to execute the strategy that I have recommended. However, this strategy is clearly in their national interest, and they should execute it.
Holders of Gold ETFs such as SPDR Gold Shares (GLD), PowerShares DB Gold (DGL), ProShares Ultra Gold (UGL) and Direxion Daily Gold Miners Bull 3X Shrs (NUGT) and gold stock ETFs such as Market Vectors Gold Miners ETF (GDX) should be on alert for any statements coming from Chinese officials regarding gold.
If Chinese officials have learned the lessons taught by their ancient master Sun Tzu, the words you hear from PBOC officials may not be what you actually get.