Friday, August 15, 2008
As regular readers probably know, Kevin Depew of Minyanville was taken to task here the other day for parroting all the other talking heads on TV who apparently don't know enough about how commodity markets work that they jump to the conclusion that a 20 percent decline in price signals something of a major change in trend as it does for equity markets.
While I can't exactly say that I felt bad for having to point out that the price of crude oil has declined 20 percent or more in seven of the last nine years (or something like that), I can't exactly say that I felt good about it either.
As part of the healing process, I'd like to bring to readers' attention some truly excellent commentary by Kevin titled Panic Selling in Gold: What Next? that appeared earlier today over at Minyanville (a big hat tip to anon who pointed this out in the comments section of the previous post).
As for gold, I would like to be more positive on the metal itself, but I believe this selling is related to a buildup of longer-term deflationary pressures in the credit markets that will dwarf the inflationary mask of (formerly surging) food and energy costs.This is one of the best summaries that I've read in recent days for what's been happening in the gold and silver markets and it helps to explain the divergence between the physical market (store of value holders) versus the paper market (the momentum crowd).
I most certainly believe gold will eventually be an asset to own in coming years. However, at the onset of deflation, gold will be sold indiscriminately - like all assets - to pay down debt and repair balance sheets.
The initial asset price inflation and central bank reflation efforts that made gold seem attractive during the building of the asset price bubble sow the seeds of the selloff as speculators attracted to the metal simply as a detached, non-fundamental momentum play will need to unwind their leveraged bets. Weak holders will be shaken out and ultimately replaced by those seeking a store of value. That is why the selloff won't make sense on a fundamental basis.
I show on the metal itself DeMark exhaustion sell signals on the long-term quarterly and monthly charts. But, the only people that should really be concerned about whether gold is going up or down right now - other than in the macro sense - are those very people who will likely need to sell and therefore be resonsible for it overshooting on the downside. I expect in the next few years for gold to retrace part of its long-term move, perhaps coming below 600 and, in the worst case, possibly even coming below 500. A 50% retracement of this major bull move would be about 458. But that doesn't change the long-term, secular bull market for gold.
Of course there are other theories to help explain this divergence.
As for central bank re-inflation, I think what we've seen over the last year is just a warm-up and that most people underestimates the will of governments and central banks to debase the currency on a scale never before seen in an attempt to get things back to "normal".
Recall that, in the U.S., our memories of the worst financial crisis in history are of the Great Depression and deflation. Unlike other parts of the world, we've never had a good hyper-inflation here and my guess is that we're about to get one.
As long as all paper money around the world is debased at roughly the same rate, most people will think things are fine - we'll have to get the Germans to cooperate.
What do you think Congress, the Fed, and the Treasury Department along with other similar organizations around the world are going to do - just sit on their hands as the entire financial system and global economy spirals deeper into the abyss?
The U.S. government is already on the hook for half of all U.S. mortgage debt for a housing market that is not likely to recover anytime soon - that's a pretty good start, but it's just the beginning.