Owners of GLD and other gold funds may wish to exercise caution as the price of gold heads into uncharted territory over the next year.
The increase in gold prices by investors, central banks, and pension funds has created a growing gold bubble. Starting in 2010 with the IMF's gold selling program created in order to finance sovereign lending programs, the price of gold has remained artificially high due to careful planning of these sales in order not to create panic selling in the market. When selling its gold, the IMF looks to member states that are interested in buying gold for their own reserves, which in effect simply shuffles the gold back and forth between sovereign nations. Thus the sovereign nation buying the IMF gold is able to meet part of its IMF allocation quota. So what is the IMF up to? And what does all this mean for gold investors?
In my opinion, this means that the world’s central bankers have come up with a clever means by which to finance the current economic crisis on the backs of gold investors. The theory would be that by driving up the price of gold to record levels, the central bankers could use gold sales to help pay off their sovereign debts. Using the IMF selling model, the sales of gold assets would have to be managed very carefully in order not to implode the gold bubble that is now building. In other words, one nation at a time in Europe would have to slowly sell its gold off in the market place in order to prevent downward pressure on Gold prices. Then another nation would step in to sell their gold. The gold could also simply be shuffled between one central bank to another.
Once the European debts are paid off, the price of Gold would theoretically collapse if this is indeed the model being used, as both sovereigns and institutions unload their gold holdings. Data from the World Gold Council supports the buy side of this theory.
According to the World Gold Council's third quarter report, demand for gold the quarter year over year was up 6%, driven by "investment demand".
Activity among central banks continued to fulfil our expectations of further purchases in Q3. In fact, net buying accerlerated notably during the quarter - totalling 148.4 tonnes - as the issues surrounding the creditworthiness of western governments' debt seeped into the official sector. A number of banks continued their well-publicised programmes of buying, while a slew of new entrants emerged wishing to bolster their gold holdings in order to diversify their reserves. We see this trend continuning into 2012.
The report also notes that jewelry demand for gold is down due to the current high price of the metal. As a matter of fact, that drop off is quite precipitous, down 32% from 2010 to 2011. Investment demand however is growing, up about the same amount, or 34% for the year. It is also noted that:
Investment demand was the sole driver of the year-on-year increase in global gold demand during the third quarter, expanding by 33% year-on-year. At 468.1 tonnes, Q3 was the third highest quarter for investment demand on record, lower only than Q1 2009, a time when record monetary stimulus was fuelling inflation fears, and Q2 2010, when the European sovereign debt crisis erupted.
The Gold Council attempts to make the case that the gold market is more stable than ever, that past market parallels of the 1980s are "superficial" and "fallacious", and that the demand and supply structures have changed enough to prevent a repeat of a bubble. I say balderdash, for he who ignores history does so at his own peril.
Market support for continued investment buying:
CNBC Market Guru Jim Cramer has stated that Gold will continue to move upwards in price over 2012. He made a public bet on Squawk on the Street Tuesday morning with another market player, that going long gold in 2012 would be a sound move while shorting the XLF or financials. Cramer is not alone in this assessment. Goldman Sachs, Solomon Brothers, and Deutsche Bank have all come out with gold targets north of $1700 per ounce.
This presents a conundrum for gold investors, especially holders of physical gold who may not be able to sell fast enough when the bubble implodes after the last central banker dumps his gold. But for some time at least, investors in ETF SPDR Gold Trust (GLD) and AngloGold Ashanti Ltd. (AU) may reap some decent profits next year. AngloGold is projected to grow at an above market rate of 64% per year over the next five years. Hedge Fund Paulson & Co. holds 36.6 million shares of AU. Blackrock Group holds over 5 million shares.
Another indicator that points to higher gold prices prior to an implosion is the fact that many pension funds across the nation have heavily invested into GLD. The Texas Teachers Retirement Fund now holds over $280 million dollars worth of GLD. Although pension fund managers are also susceptible to being duped by Wall Street investment bankers like the rest of us, one might assume that they may be privy to Wall Street’s gold bubble map. GLD is TRS' fifth largest holding. Interestingly enough, Blackrock is one of TRS pension fund’s advisors.
Caution: When pension funds such as TRS begin closing out their gold positions, buyers beware! All bets are off.
The astute investor may wish to have cash available to purchase shares of ETF DZZ to take advantage of any sudden moves downward.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
