Q&A On Gold—Past, Present and Future

by The Curmudgeon


In this first in a series of articles on gold, we examine gold as money, gold market drivers, where we are in the market cycle, if the cyclical bear market in gold is over, the influence of large traders, and what the future for gold might look like.


Our next article will look at why the U.S. government wants lower gold and commodity prices and what we (and others) believe has been Fed and investment bank manipulation of the gold price in the last two years.  In our third piece we will examine the often asked, but seldom answered question of who owns the Fed and if it really is an independent branch of the U.S. government. 


All of these articles are (and will be) based on the CURMUDGEON's independent research and conversations with his longtime friend Victor Sperandeo ("the man of all markets").


Questions and Answers:


1.      What is gold?


Gold is money.  It is a currency that cannot be debased by printing paper money (i.e. debt monetization).  Nor is it a fiat currency, that's backed by good faith, but nothing else.  Central banks hold gold in reserve as a store of value and as a guarantee to redeem promises to pay depositors, note holders (e.g., paper money), or trading peers, or to secure a currency.


Some people like Fed Chairman Ben Bernanke, call gold an asset, rather than money. And it is that too, as gold's price in paper currencies goes up and down based on a variety of conditions, which we will now examine.


2.   What drives the gold price up and down?

Gold increases in price when there is accelerating inflation, negative real interest rates, and/or a perception of global chaos or crisis.  The most recent example of the latter is fears of a Eurozone breakup and/or defaults on debt (by Greece, Spain, Portugal, Italy etc.) which served to drive the gold price higher.  These days, gold is often viewed as a hedge against "tail risk" of an unexpected financial crisis or other world chaos. 


In time periods of real economic growth accompanied by declining inflation (e.g. 1982-89), gold is not a good investment as its price will likely drop in both real and nominal terms.


Many people incorrectly assume that rising interest rates will have a negative effect on gold.  That certainly was not the case from 1978-1980 when rates and gold both rose sharply due to rising inflation. 


3.   Is gold in a new secular bear market?

We don't think so.  From 2001 to 2012, the gold price has increased each year.  That's an 11 year profitable winning streak!   We view gold's 36% decline from its September 2011 high to its June 2013 low as a cyclical bear market - within the context of a long term secular bull market.


4.  What caused the cyclical bear market in gold?


Victor Sperandeo opines, "Certainly part of the decline was manipulated (by the Fed and several large investment banks)."  Basically, the Fed wanted to drive the price of gold (and other commodities) down to show that inflation was contained and that its monetary stimulus program (QE and ZIRP) was working.  As previously reported, an artificially lower inflation rate results in real GDP that's higher than what it would otherwise be.  Anecdotal evidence suggests that several investment banks (which are part owners of the Fed) established gold short positions to accelerate the yellow metal's decline.  Read more about the Fed's manipulation of the gold price in our next article.

5.  Has the cyclical bear market in gold ended?

Victor says that gold's recent bear market ended on June 27th or June 28th this year.  On a close only basis, the SPDR Gold ETF (GLD) bottomed at 115.94 on June 27, 2013.  That was a substantial 3.45% discount to the $1201 spot gold closing price that day (Source: Kitco).

6.  What about big hedge fund managers (e.g. John Paulson) selling the SPDR Gold ETF?

Paulson & Co., the largest investor in the SPDR Gold Trust (GLD) (the biggest exchange-traded fund for the yellow metal) pared its stake to 10.235 million shares in the three months ended June 30th.  That's down from 21.8 million at the end of the first quarter, according to the firm's most recent 13-F filing with the SEC.


In that 13-F filing, GLD was reported to be just 8.6% of Paulson & Co. assets- a huge decrease from last quarter when GLD was by far the firm's largest position at 19.03% of assets.

Billionaire hedge fund managers George Soros and Daniel Loeb sold their entire GLD stakes in the past quarter, according to SEC filings.  

Assets in GLD have tumbled 32 percent in 2013 to the lowest since February 2009.  SPDR Gold Trust held 968.3 tonnes of gold at the end of the 2nd quarter, down 252.6 tonnes, or 21%, from the 1st quarter.  

But this type of action is typical of bear market bottoms, as it marks the ultimate "give up" stage.  If we look closely at the 3 month GLD chart below, we see that it's currently at a 2 1/2 month high.

A longer term chart of the gold spot price shows that the metal is substantially above its 50 day Moving Average (MA), but quite a bit below its 200 day MA.




7.  Do large speculators/financial institutions control the gold futures market?

Apparently yes!  According to the latest CFTC Commitment of Traders Report, the top four traders hold 31.6% of the Long Gold futures (all contracts on all US exchanges) open interest and a different set of 4 traders hold 26.1% of the Short Gold futures open interest. 

Meanwhile, Theodore Butler claims that JPMorgan is "cornering the gold market via their massive long position in COMEX gold futures."


Butler adds, "This may seem hard to believe, but JPMorgan’s current corner on the COMEX gold market is the second market corner in the gold market by this bank in the last nine months and among many prior corners over the past five years in gold and silver. JPMorgan is a serial market manipulator and now swings both ways in cornering markets; usually on the short side of markets until the current long corner in gold."  Again, more about this type of market manipulation will be covered in our next article.

8.   What does the future look like for gold?

The Eurozone crisis is resurfacing with German finance minister Wolfgang Schaeuble talking about another Greek bailout. If that revives concerns over the health of peripheral economies and hence the survival of the Euro, it would likely create a search for the 'crisis coping' insurance offered by gold.  It would also cause the Fed to NOT taper its QE program, which would also be bullish for gold.


Victor Sperandeo: "History is very clear that when you print this much paper and thereby create a $17 + $10 Trillion { off balance sheet} debt + 200 trillion unfunded liability, then gold must be used as an insurance policy to hedge other investments and paper currencies (which would depreciate during run-away inflation)."


Richard Russell: "The whole concept of creating money without toil or risk is an integral province of the Federal Reserve.  I believe that one way or another, the Federal Reserve and all it stands for will be eliminated.  The process by which this will occur worries me.  I believe it will take a huge disruption of our current economic system in order to eliminate the Federal Reserve and its immoral process of money being created out of a computer and thin air.   The process of creating money from “nothing” makes a mockery of real work of all kinds.  Thus, by inference, I am calling the Federal Reserve an evil institution.  The more so, since it denigrates gold, which is, and has always been, true wealth, wrung out of the earth through man's sweat, toil and risk."

Continuing, Russell stated:  

"Technically, gold is in the best shape it has been in, in over a year.  Last week saw the first new inflows into the gold-backed ETFs.  On top of that, the China Gold Association reported that Chinese gold demand in the second quarter rose 87% from 2012, to 386 tonnes. "

"I don't believe the economy will be bright enough for the Fed to cut back on QE later this year.  A continuation of QE should be bullish for gold.  Speaking of gold, I was amazed that there was absolutely no mention of gold's brilliant performance last week in Barron's or any other newspaper.  Evidently, nobody wanted to even mention gold's upside breakout.  Just a complete silence on gold -- amazing.  When gold was falling, it was the talk of the town.”


Closing Comment:  The fact that there was no attention paid to gold's upward movement is a healthy sign of skepticism, which augurs for a continuing price advance for the precious metal. The true test will be if gold can rise and stay above its 200 day MA, which is currently at $1532.4 and declining.


Disclaimer:  The CURMUDGEON owns hedge and futures funds that are long gold and at least one futures fund that is short gold (to our chagrin). 


Till next time.....................


The Curmudgeon

Curmudgeon is a retired investment professional.  He has been involved in financial markets since 1968 (yes, he cut his teeth on the 1968-1974 bear market), became an SEC Registered Investment Advisor in 1995, and received the Chartered Financial Analyst designation from AIMR (now CFA Institute) in 1996.  He managed hedged equity and alternative (non-correlated) investment accounts for clients from 1992-2005.