6 Ways to Profit from Gold's Dip Below $850

By Mike Caggeso

The gold bugs must be scratching their heads. After all, it’s just not supposed to work this way.

They’ve watched as oil prices continued to set new records, understanding that global turmoil and rising demand from China means that "black gold" won’t be getting cheaper anytime soon.

They’ve stared as global food prices continued to soar, touching off riots overseas and bringing U.S. lawmakers to the brink of fisticuffs because of debates over whether corn now earmarked for ethanol should be used to fill empty gas tanks, or empty stomachs.

And they’ve waited expectantly as the good old U.S. greenback - whose historic swoon against key global currencies has been exacerbated by an epic rate-cutting campaign by the U.S. Federal Reserve - suddenly reversed course and mounted a two-week rally (despite last Wednesday’s rate reduction, the central bank’s seventh since September).

When they occur separately, each of these developments - increasing oil prices, soaring food and commodity prices, and a plummeting greenback - are highly inflationary. But when they happen in tandem, the ascent in prices can be almost vertical. In such an environment, investors scramble to find a so-called "safe haven" for their money. And the best safe haven has generally been gold.

Until now, that is.

Gold dropped below $850 an ounce last week - representing a decline of more than $182 an ounce, or nearly 17%, from the yellow metal’s March 17 record of $1,032.

The main culprit: The resurgent U.S. dollar. Since mid-to-late April, the U.S. greenback has gained ground against several major currencies, such as the European euro, the Japanese yen, the British pound, the Swiss franc and the Canadian dollar. And that rally could continue, especially now that the U.S. Federal Reserve has all-but-promised to end the ambitious rate-cutting campaign that it’s been operating since mid-September.

But Money Morning contributing editor Martin Hutchinson thinks other forces are at play, too.

"Credit conditions have eased since March because of the Bear Stearns (BSC) bailout and so investors’ fear level is less. [The] stock market is up too, which suggests the same," Hutchinson said.

Moreover, gold’s meteoric rise from $654 to $1,032 an ounce in a year (a 57.8% gain) attracted a lot of bulls and speculators whose demand helped push prices further skyward. When gold started to slip, gold bulls sold off their holdings, nudging the yellow metal into its current tailspin.

Such a slippery slope is unusual for gold, but those very conditions could be strong drivers of gold’s next rally.

"The gold market is quite illiquid, which is why I think a real speculator panic about inflation could send it zooming," Hutchinson said.

And inflation could be the catalyst for such a speculative panic.

Inflation, Interest Rates and Gold

Gold may be down from its high, but it’s not out.

"It still looks heavy at this point. The downtrend that we are seeing at the moment is probably going to start slowing down soon," Taso Anastasiou, technical strategist at UBS Investment Bank (UBS), told Reuters.

In fact, gold’s current price could be seen as a "discounted" entry considering three catalysts - worldwide monetary policy, global supply-and-demand, and past performance - have already ignited a powerful rally that’s virtually certain to carry gold past $1,500 this year.

And, as Money Morning has chronicled, some experts have even predicted that gold prices would reach the $2,000-an-ounce level within the next year or so.

Global inflation will be a key -if not the key - factor. Interest rates have been significantly reduced around the world, with many countries following the Fed’s lead.

To fight inflation, central banks will have to raise rates. But central bankers - including the U.S. Fed - won’t make those moves without a great deal of thought beforehand, Hutchinson said.

"And during that period, expect speculative demand for gold to intensify and its price to increase steeply. The longer the period before the Fed is forced to increase interest rates, the higher gold will go," he said.

How to Play and Profit from $1,500 Gold

Until the Fed reverses its monetary policy strategy and increases interest rates, gold is one of the best investment bets available in an uncertain economic climate.

Money Morning suggests six gold plays to consider while gold is priced down:

• The simplest way to play gold is through the StreetTracks Gold ETF (GLD), which tracks the gold price directly. And with a $17 billion-plus market cap, it has ample liquidity.

• Barrick Gold Corp. (ABX) is a Toronto-based company with mostly North American production, as well as properties in South America and Africa, and some copper and zinc add-ons. It has a $38 billion market capitalization, so there’s plenty of liquidity. It has a trailing Price/Earnings ratio of 29.65, but a forward P/E of 13.69. By gold-mining standards, this company has a substantial presence, is reasonably valued, and has little political risk. The company also recently sent some very bullish signals to the market and recently reasserted its confidence in meeting its 2008 output target of up to 8.1 million ounces of gold. [For more details, read a related story about Barrick Gold]. Barrick is scheduled to report its first-quarter earnings results tomorrow (Tuesday).

• Yamana Gold Inc. (AUY) is another U.S.-listed Canada-based company, but this one does its mining in Brazil, Argentina, Chile, Honduras and Nicaragua. It has a market cap of $9.7 billion and a trailing P/E of 40, but its forward P/E is only 14. Despite its geographic reach, it faces only a medium geopolitical risk. Expect the company to double production to 2.2 million ounces per year by 2012, primarily in Brazil and Argentina.

• Gold Fields Ltd. (GFI) is a South African company that mines in South Africa, Ghana, Australia and Venezuela (where it just sold control to a local company, reducing its exposure to an arguably risky market). The company’s market cap is $9 billion, its trailing P/E is 20.98, and its forward P/E is 10.41. It faces a somewhat upper-medium political risk, depending on what you think of South Africa, where the electricity supply to the gold mines is currently unreliable and there’s a good chance of Jacob Zuma winning the presidency in April 2009. Given his record as an anti-Western leftist, and the corruption charges he faces, his potential return can only be viewed as a major negative.

• Kinross Gold Corp. (KGC), another U.S.-listed Canadian company, engages in gold and silver mining, with primary operations in Canada, the United States, Brazil, Chile and Russia. In February, Kinross issued shares to buy a large Brazilian/Russian company. Political risk is low-medium. It has a market cap of $14 billion, a trailing P/E of 32.32, and a forward P/E of 16.03. It looks somewhat expensive.

• Royal Gold Inc. (RGLD) is a U.S.-based company with mines in Nevada, Mexico and Argentina. It faces low political risk. But with a market cap of $905 million, a trailing P/E of 40.56, and a forward P/E of 22.38, the stock looks expensive.

Comments

[gaucho]

All the yahoos are saying that GOLD is dead! We had a 17% correction so what if a stock had a 17% correction we would say that is a good entry point.

Questions to ask;

Is inflation going up around the world?

Do you believe the FED is telling us the truth about inflation at 2.6%?

Is the finacial crisis over?

Is the realestate crisis over?

Is the world producing less gold?

Are the international bankers trying to manipulate exchange rates?

How much money has the FED pumped into the economy?

Ans to the above keep a position in gold.

[sfsos]

Also try DGP (Deutsche Bank Double Gold ETN).
sf

[CT Programmer]

I wouldn't call gold "discounted" right now by any means. Maybe Barrick. But how is a forward PE of 16-23 discounted when the S&P average PE is 14-15? Maybe compared to the PE's of 30-60 a month ago, but if you look at the 5-year chart for GLD its price is definitely in line with the the slope. I agree with both the article and gaucho's comments that gold is not down for the count. This is all just a temporary pullback. The long term fundamentals are still there. The dollar will continue its slide (despite any temporary strengthening) because nothing has really changed. Inflation is, and will be, a major concern, and our deficits will continue to be staggering. And all the long term bull arguments for commodities can be applied to gold. Sure its not "necessary", like food or even oil, but that hasn't stopped it from continually appreciating in the long term. But to translate that to the idea that gold is discounted CURRENTLY, that's just hogwash. I already have gold, as an appropriate % of my portfolio, that I'm sitting on long term. But I think it will pull back some more in the near term.

[Serena]

All Yamana shareholders must see the SUPER BULLISH YAMANA French Curve Chart dated May 2 on Jim Sinclair's MineSet website and note that Mr. Sinclair asserts that "the downside in gold will be in by the end of the first week of May". ALL GOLD investors should note that in his Special Gold Trading Update (written April 29 and posted on April 30 on the Kitco site) Alistar Gilbert (noted Gann adherent) writes "GOLD IS GETTING READY TO EXPLODE HIHGER IN WAVE 3 OF 5. The Fibonacci TIME chart shows we have just hit the 61.8% level in time of Wave A. The 61.8% in price target of Wave A. The 61.8% in price target of Wave A is $853. This means we are either bottoming today or will run to this Friday 2nd May. Friday is the 100% in TIME and fits well with the due Delta date for ITD#1 and MTD#2 turning points. Friday is also a Fibonacci 34 Trading days from the March 17th high. Gold is ready in TIME for the big move having completed 61.8% in TIME of Wave A and with 100% due on 2nd May." ALL GOLDCORP shareholders must see the excellent charts and valuable commentary of Trader Dan Norcini posted on May 2 of the MineSet webset.

[User 137633]

Gold bugs are insane.

[Moses]

Serena your post is priceless, I hope gold plummets and teaches you a lesson. All the technicals in the world can say one thing and it can do the exact opposite.

[whenthemusicstops]

all that glitters is.....

[Axenolith]

User 137633, If my annual 5 year return rate of ~37% is insane, I think I'll stick with it...

RE- Barrick, don't they have an ~9 million ounce hedge in currently non-producing properties?

[bruin532]

The Fed can tax, borrow or print guess what there doing buy gold oil or commodities to hedge inflation.

[Alan von Altendorf]

I allocate 10% of portfolio in gold as an inflation hedge. Not very buggy, just prudent. For the same reason I hedge interest-bearing deposits in more than one currency. If we're headed for a 1970's hyperinflation, it will be/is planned and purposeful, to bail out the big debtors: USG and GSEs, states, municipalities.

[waldipup]

"All goldbugs are nuts"

I bought PAAS , SSRI , GG, KGC in the low single digits and they are now in the 20's , 30's and 40's .

User , as long as there are humans on earth , there will also be morons on earth.


"All the technicals in the world can say one thing and it can do the exact opposite. "

Moses , when do you enter and when do you exit?

If a tech signal is wrong , you get another telling you so and can exit.

If it is right , you've entered near the lows.

I'm having renovations done on my house.

Give me the same tools my contractor is using effectively , and I'd probably shoot a nail in my hand in 5 minutes.

But if you learn how to use tools , and they are invaluable.

[Dr. Duru]

Instead of buying gold (or in addition to buying gold), just buy the commodities that are going up, trending up, and contributing to inflation. If or when gold finally responds, those inflationary commodities will likely really be kicking into high gear.

[mongoose]

I think Gold will make new highs in January of 2009. This the planting season not the harvest.

[VP of Common Sense]

A 7th way to profit: short it.

[CaptBob]

Now I know why "The thundering heard" can go stampeding off in any direction at any time, rendering the fundamentals and even the technicals useless.
The Mother of volatility!!

[bowman711]

A good way to play both gold and silver bullion together is with CEF - the Central Fund of Canada. Right now they are about 50/50% gold bullion/silver bullion. You can learn more about this relatively 'unknown' ETF at: www.centralfund.com / If GLD or SLV is too high for you to buy round lots, try looking at CEF.

[iman]

CEF is also a closed end fund so it can (and has) traded at a premium to the gold/silver price, but for US investors be sure to check with your tax adviser since its a passive foregin investment, you can get capital gains treatment if you file the right forms.

Decent list, I'd remove GFI since the power problems are just beggining, maybe add AEM and NEM to the list.

[seeksome]

Gold scares the heck out of me.But to buy gold cheap go to:
seeksomething.com