Gold: A Seismic Move Is Coming

May.23.12 | About: SPDR Gold (GLD)

Wow, it seems like years ago gold was the most talked about asset in the market. Just a year ago, with the S&P 500 and its tracking exchange traded fund - SPDR S&P 500 SPY (NYSEARCA:SPY) - off nearly 20% from where it is today and fears of an implosion in Europe at the highest levels the financial community had seen in some time, gold and its tracking exchange traded fund, SPDR Gold Trust (NYSEARCA:GLD), was all the rage.

Now, even after the recent sell-off, the S&P 500 is still up significantly from the middle of last year, with stocks such as Apple (NASDAQ:AAPL) up 30% this year alone. Recent reports have also showed that demand for gold was actually down during the first quarter of this year by around 5%, while the price is 15% higher today than it was this time last year.

Gold has had a horrible 2012 so far.

While the recent spike in Spanish bond yields showed the limits of operation long-term refinancing, the VIX has also stayed fairly low compared to last year, now around 25. The gold bugs who are not long-term holders of this asset class have largely left this trade as well.

Still, while I've been very bearish on gold in my last two articles on this asset class, I think the economic and investing environment has become much more favorable for gold over the last several months. During the last month the economic data has slowly began to deteriorate. Starting at the beginning of April, several poor jobs reports in the U.S. came out. A number of recent key manufacturing and other economic reports from the eurozone were disappointing as well. Finally, several recent trade and GDP reports from China and Japan suggest a slowdown is coming as well.

The VIX has also risen significantly during this recent sell-off, from the low teens to around 25, and technically, gold has also now consolidated along strong support lines, setting up a reverse head-and-shoulders pattern.

What is interesting to me about the deterioration in economic data is that while growth is slowing, Europe, the U.S., and China are going through major elections and leadership changes over the course of this year. France just had its presidential election, while Greece has major upcoming elections in the next couple months. The presidential campaign in the U.S. will be starting soon, and China will have also new leadership within the year for the first time in a decade.

With newly elected leaders in major European countries and the U.S., central banks seem less willing today to take major actions that may make these institutions look political. Still, longer term, once the elections occur, if the economic outlook remains weak, recently elected and new leaders of the G-8 nations will likely look to take more aggressive actions to stimulate the economies, and central banks will likely look at additional easing and other monetary stimulus options as well.

Today, the dollar continues to breakout to new highs against the euro and most major currencies. Still, any major new monetary action taken by the ECB will likely need the support of the U.S. and China since Europe lacks significant capital and the IMF will likely be heavily involved. Also, while corporate earnings at leading companies such as General Electric (NYSE:GE) and Citigroup (NYSE:C) have been stronger, the jobs market remains weak in the U.S., and most major multinational companies in America have seen stronger growth overseas.

In the past, Bernanke and Obama have also been continually committed to the kinds of stimulus that has promoted a weak dollar policy, and asset inflation. While the political environment changed when the Tea Party-led conservative movement took the House in 2010, today the Tea Party movement is not nearly as strong, and Obama's approval numbers have moved up significantly in the last year to around 50%.

While the recent election of Tea Party conservatives who opposed new stimulus and spending programs thwarted significant additional new spending efforts, the Republican party seems to be moving to the middle with the likely nomination of Romney. Polls also suggest that the Tea Party movement has lost significant support amongst independent voters.

With Obama's approval numbers have also recently reached 50% for the first time in years, and the only major Tea Party candidate in the Republican primary elections, Herman Cain, failed to generate significant support among Republicans. Romney's likely nomination represents a move to the middle since the former governor is known as a fiscal and social moderate. While Romney would likely be forced to choose a new head of the Fed, Romney had a very liberal record on social and economic issues as governor of Massachusetts. He's also no enemy of Wall Street. Whether Obama is re-elected or Romney is elected, the Tea Party movement's failure to put forward a viable candidate for the presidency should pave the way for new stimulus after the U.S. election if the economic outlook remains weak. China will also have new leadership this year, and the new government will likely also look to find ways to save face as weakness in the Chinese real estate and construction sector continues to weigh on the country's growth.

To conclude, while the dollar has risen during the recent sell-off and rise in fears over continued debt issues in Europe, the U.S. remains committed to a weak dollar policy. With moderate or left-leaning leaders likely to be elected in the U.S., and new leadership likely to face a slowing economy in China, it is unlikely these governments will stay on the sidelines if the economic outlook continues to deteriorate. Most central banks will likely take their cues from the elections and policies that follow as well.

China's recent GDP report suggested the economy was expanding at around 8%, but key leading indicators such as real estate investment, electricity usage in the country, and exports, remain weak. China's exports showed a 0.3% increase from last year, while analysts were projecting an 11% year-over-year increase at this time last year.

Despite political and inflationary constraints that have existed on new monetary and fiscal efforts in the past, most major elections will be over in six months, and commodity prices have fallen significantly in the last month. While the success and failure rate of fiscal and monetary stimulus will always be hotly debated, newly elected political leaders will likely look at major policy options if the growth outlook remains weak. With investor interest in gold at multi-year lows and shorts heavily in the market, gold may be ready to move.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.