One of the key factors that had the most influence on gold prices during the last couple of years, after the credit crunch triggered by subprime mortgages losses in 2007, was the possibility of a new round of quantitative easing(QE3) by the Fed. Just to remind you, that QE1 and QE2 already took place.
Everybody today in the gold market including both speculators and investors are talking about QE3, this nickname became almost ubiquitous. In short, QE is purchasing by US central bank of financial assets from other banks and private sector with the help of new electronically created money, which is injected in the economy to stimulate it. Frankly speaking, emotionally driven equity markets don't care about the source of money, the only care that this spring will never dry out.
This 'money printing' by the Fed creates hidden inflation and devaluation of the dollar, which, in turn, pushes the gold and silver prices up as a hedge against inflation for gold investors and as a rush for quick profits for gold speculators.
Though, I personally think, Ben Bernanke is against the new round and is eating up the clock. According to Alan Greenspan, the former chairman of Fed, the QE1-2 didn't help much to stimulate the economy and he was rather surprised by the data received. With interest rates near zero, I don't think QE3 will make any considerable impact on the economy. Besides, Bernanke time and again mentioned that the Fed has done everything they could, and now it's time for Congress to act.
But the recent sluggish macroeconomic data, coming from around the world and US, 8.3% US unemployment rate, European unemployment at new all time highs, German economic readings being weak might be pushing the Fed chairman toward more easing despite recent US economic news has been a bit positive. Nearing president elections have too forced him in a position where the next round of easing is a most likely scenario.
US stocks, crude oil, silver and gold have started out higher in anticipation of the Bernanke speech at Jackson Hole. The stakes are high so Bernanke will have to acknowledge the possibility of easing at least in the September FOMC meeting or gold traders would be disappointed.
Gold is getting support from news of increased gold derivative inflows this week and the possibility of retirement of the head of the Bundesbank, who has been an aggressive opponent to the EU bond buying program. No wonder, that the European equity markets have started out on a positive track after these talks as well as the Euro.
"They're closer to doing QE3 than I would have guessed," said John Silvia, chief economist at Wells Fargo Securities LLC in Charlotte, North Carolina, "It may not be September. It could be October."
The probability that European Central Bank (ECB) will start easing next week and the prospect that the Fed will ease in September or even in October, but not reveal that position right now, could help gold hold steady.
I don't want to predict whether Bernanke will launch a new round of QE, I just want to make sure that he will keep its possibility in his ebb and flow speech during the next Federal Open Market Committee (FOMC) meetings on September 13 and the next one on October 23-24. What we only need during the next couple of months is that the Fed chairman at least be throwing a bone to the markets of the prospect of more easing.
The Gold Options Strategy:
Sell December Gold out-of-the money vertical Put spreads below $1300 level.
There are 3 possible scenarios for Gold during the next couple of months. The most probable one is that Gold will be around the current levels, it may be swaying up and down a bit, if Bernanke keeps throwing a prospect bone of QE3. The second one - the Fed pulls the trigger of easing and the gold rallies. You collect the options premium which would be worthless by that time.
And the third one - The Fed cancels QE3 and the gold tumbles. If it falls deeply below and above our exit strategy maximum, we would buy back our option spreads and count our losses, if it stays above our sold option strikes and below our exit level we would wait until all options expire on November and put the premium in our pockets.