Gold is skyrocketing. Since the end of QE2 on June 30, the yellow metal has gained more than 23% to cross the $1,800 level for the first time in history. While the chart on gold may be starting to look a bit parabolic, this recent rise is a bit more reasonable when put into a broader context.
I have been bullish on gold for some time. And my primary thesis for owning gold remains in tact, which is a secularly weak dollar policy in the United States dating back to 2002 coupled with global currency debasement and competitive currency devaluation in the wake of the financial crisis. But a recent look at the gold price chart is a bit dizzying. The slope of the gold price line has increased dramatically since the beginning of July and it appears that gold is overdue for a correction based on a variety of technical readings.
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To begin with, I would welcome any pullback in gold to add to existing positions. My target price remains the 150-day moving average, which has been a reliable support level since the beginning of the financial crisis. GLD has successfully held support at its 150-day moving average seven times over the last few years. It almost made it eight times in early July, but it never had the chance to make the final fall toward resistance once the deteriorating sovereign debt situation in Europe had investors flocking toward safe havens like gold. So while I’m not adding to gold positions at current levels, I’m not necessarily selling out of gold either despite its currently overbought state.
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The following are several reasons why I continue to hold gold:
1. Gold is priced in U.S. dollars
The gold price is not only a reflection of the demand for gold, but it’s also a reflection of the lack of demand for the U.S. dollar. A look at the price chart for the U.S. dollar shows that at least part of the recent rise in the gold price is due to a U.S. dollar that continues to chronically weaken relative to global currencies. In addition, it has been trending lower throughout the summer to early May lows and is applying increasing pressure to break this support level. In other words, while global investors have been seeking a safe haven in recent months, they haven’t necessarily been finding it in the U.S. dollar.
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2. Gold is performing more in line with other safe haven investments
Three other categories have been leading safe haven investments during the current crisis. These are:
- Swiss Franc
- Japanese Yen
- U.S. Treasuries
A look at gold relative to these three other safe havens reveals that the yellow metal is performing generally in line with the broader safety trade.
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If anything, gold has been flat to trailing versus some of its safe haven alternatives in recent months. Until recently, gold had been flat to down versus the Swiss franc since last summer. While gold has been consistently outperforming the yen, this price trend has been generally consistent along the way. And gold is only slightly higher for the year relative to long-term U.S. Treasuries.
But what about recently? When one focuses in on the August 2011 segment of the gold versus Swiss franc and gold versus Japanese yen charts, it looks like gold has become a bit frothy against other safe haven alternatives in its own right over the last few weeks. This trend highlights the added appeal of gold as a safe haven investment. In recent weeks, both the Swiss National Bank (SNB) and the Bank of Japan (BOJ) have been actively talking about interventions in an attempt to weaken their chronically strengthening currencies. If you’re a safe haven investor and the issuer of this investment is talking about trying to debase its value, your natural inclination may be to exit this position and move on to another safe haven. And while currencies can be manipulated, the amount of gold cannot be influenced this way since its supply essentially fixed.
So while gold does look a bit overstretched following its latest spike, this rise makes sense when examined in the context of the safe haven trade. A correction in gold certainly would not be surprising in the coming days or weeks, particularly if SNB and BOJ interventions fail and these central banks decide to back off or if the U.S. dollar begins to rally relative to the euro. But any such pullback will likely represent an ideal buying opportunity to add to gold positions. As long as the threat of financial crisis overhangs the market and global central banks remain determined to embrace weak currency policies, gold should continue to shine.
Disclosure: I am long GLD, TLT.
This post is for information purposes only. There are risks involved with investing including loss of principal. Gerring Wealth Management (GWM) makes no explicit or implicit guarantee with respect to performance or the outcome of any investment or projections made by GWM. There is no guarantee that the goals of the strategies discussed by GWM will be met.
