PM End of Week Market Commentary – 9/5/2014
On Friday gold was up +7.60 to 1269.30 on moderate volume, while silver was up +0.14 on light volume. There was some volatility at 0830 EDT at the time the disappointing Nonfarm Payroll report was released, but in general both gold and silver were steadily positive today, although volume was relatively light.
On Friday mining shares rebounded. GDX made a new cycle low but rallied into the close ending up +0.76%, printing a small hammer candle on moderate volume. GDXJ did even better, up +2.99% on heavy volume. After Thursday's big drop, it was nice to see some dip-buyers appear, although the rally today did not make up for the losses on Thursday. I expected a few more days of selling given the break of support; this tells me there is still interest in the mining shares even with gold's weakness and the dollar's amazing strength.
For the week gold was down -18.70 [-1.45%], silver dropped -0.29 [-1.49%], GDX down -6.07%, and GDXJ off -6.65%. The gold/silver ratio was basically unchanged, and the miners broke support driven largely by the strong rally in the dollar.
The story this week was all about the US dollar, and its mirror image the Euro. On the week, the dollar rose +1.29% with most of the gains happening on Thursday, as the ECB told the world they were going to print money and drop deposit rates to -0.2%. The goal of the ECB policy is to get banks to lend; but the consequence of the policy is that Big Money doesn't want to stay in eurozone banks where it gets penalized for being there, so it flees elsewhere.
The massive move on Thursday in reaction to the new ECB policy suggests the market did not expect the news. Still, I believe there is the possibility we had a "capitulation" event on Thursday. Typically, capitulation lows happen at the end of a longish bear move where there is a final massive burst of selling that marks the low. Right at the bottom, some unexpectedly horrible bit of news causes the last few remaining bulls to panic out of the market, resulting in a huge down day.
But with the potential sellers flushed out of the market, who is left to sell to move prices lower? And together with the shorts who now start to feel that they want to ring the cash register on their successful bets, that causes a rally to happen.
We are not at support yet for the euro so the chart picture isn't perfect, but I think there is a possibility we have seen the near term lows in the euro – and possibly the highs in the buck. If true, this should help PM, but we will need to see how the currency markets react next week before we know for certain.
In the weekly chart of the euro below, you can see the RSI value showing deeply oversold conditions. This is why I bring up the possibility for a capitulation low. If this happened right at 127.50 support, I'd be more confident, but single-digit RSI values on weekly charts are pretty rare.
Bottom line, if this does mark the low for the euro, gold should rally too.
Mining shares had a bad week, no two ways about it. Tuesday GDX sold off, and on Thursday GDX broke support on heavy volume with the catalyst being the massive dollar rally off the ECB's announcement. However, there still looks to be buying interest in the miners. Represented by the hammer candle on GDX, traders are buying the dip, but if the euro continues its free-fall, this potential low probably won't hold. The volume on Friday seems somewhat light, which lowers my confidence a tad.
The picture of the possible low is clearer when seen through the GDX:$GOLD ratio. You can see in the chart below that Thursday's massive dollar rally caused a bit of a collapse in the ratio, and on Friday the GDX rally caused the ratio to print a very pretty hammer candlestick. This needs confirmation on Monday; if forthcoming, its a buy signal, but its success or failure probably depends on the action of the currencies.
Still, the point is, traders on Friday were betting on a rebound in the mining shares.
SPX made another new all time closing high Friday, closing up +10 to 2007.71. Equity prices sold off a bit in the morning for an hour or so but then rebounded, closing at the highs for the day. Traders clearly wanted to be long going into the weekend. For the week, SPX was up +4 [+0.22%]; most of the rest of the price action this week was slightly bearish.
While the equity market hasn't been a clear beneficiary of the capital flows into dollar assets this week, neither has it been hurt. The bullish end to the week probably signals more highs ahead, but I am not certain how much gas is left in the tank. Had money piled into equities on the dollar rally I might have said something different, but this environment still feels risk off to me.
Rates & Commodities
Bonds fell this week, with TLT down -2.57%. The return of the traders in September from their summer holiday saw profit-taking in the long bond this week. Whether this continues and results in a trend change or is simply yet another buy-the-dip opportunity probably depends on capital flows from the rest of the world.
After rallying last week, commodities sold off further this week, dropping -1.54%. On the week, brent crude was off -2.3%, WTIC down -2.51%. In spite of a strong rally Wednesday, oil is still struggling to find a low. Since commodities are priced in dollars, the strong dollar really isn't helping.
Physical Supply Indicators
* Premiums in Shanghai were up +0.26 this week, with the premium now +1.89 over COMEX.
* The GLD ETF lost a big -9.28 tons of gold, with 785.72 tons total holdings.
* Registered gold at COMEX is at 31.57 tons total, down -4.2 tons on the week.
* ETF Premium/Discount to NAV; gold closing (15:59 close price on September 5) of 1269.50 and silver 19.215:
OUNZ 12.66 -0.15% to NAV [down]
PSLV 7.76 +3.99% to NAV [down]
PHYS 10.50 -0.50% to NAV [down]
CEF 13.50 -5.96% to NAV [down]
GTU 44.28 -5.66% to NAV [down]
ETF premiums were down across the board.
The COT report is as of September 2nd, when gold was trading around 1266. During this period, Managed Money significantly increased short exposure, adding 16.4k shorts while dropping 1.9k longs. Producers closed shorts and increased long exposure by 3.7k contracts net. Once again, the big move lower in gold on Tuesday was all about the Managed Money shorts.
In silver, the picture looked similar, with Managed Money adding 7.4k shorts but also 800 longs. Producers closed 3.7k shorts and bought 2k longs. From the COT reports we can see that the downside pressure is all from the hedge funds, and right now is about increasing short exposure rather than from longs bailing out.
Right now, there is no historically low or high short or long positions; the COT is able to tell us who is doing what, but is not giving us a hint as to a possible trend change.
Moving Average Trends [20 EMA, 50 MA, 200 MA]
Gold: short term DOWN, medium term DOWN, long term NEUTRAL.
Silver: short term DOWN, medium term DOWN, long term DOWN
The moving averages are unchanged on the week, and are all pointing neutral or down. They are more or less unrelentingly bearish.
This week gold and silver both were pounded hard on Tuesday, the first trading day in September, and have continued to decline for most of the week. Miners broke support on Thursday's dollar rally, sold off hard and may have marked a low Friday. Right now, trading appears to be dominated by currency flows – continued dollar strength/euro weakness.
From the moving average perspective, gold is mostly bearish, while silver is bearish in all timeframes. The gold:silver ratio dropped to 66.04, moving sideways. GDX:$GOLD sold off hard and is now in a correction mode and looks bearish, while GDXJ:GDX has been volatile but is unchanged this week, continuing to look bearish. SIL:$SILVER has corrected along the lines of GDX:$GOLD, and now looks bearish. That's a pretty bearish picture!
The COT reports this week saw more shorting by Managed Money in gold, while Producers covered. In silver Managed Money and Producers added both shorts and longs, but more shorts than longs. Managed Money did the heavy lifting driving prices lower.
Shanghai premiums are up slightly this week, GLD tonnage dropped substantially, and the ETF premiums were down. Let's call physical demand neutral; gold vanished from COMEX and GLD, but Shanghai isn't showing any premium expansion, and the ETF premiums were universally down.
The buck had a mega rally on Thursday driven by the ECB money printing announcement. This drove GDX through support, and I believe that the move higher in the buck has continued to encourage the COMEX gold shorts and/or made the longs nervous. Gold priced in euros is actually doing pretty well.
Right now, I believe the PM market is mostly driven by currencies and capital flows. If Thursday marked the Euro "capitulation low", then we could easily see a low marked in PM over the next few days – and given how oversold the euro is, I think that outcome is quite possible. Now we just need the market to cooperate. However if money continues to flee the Eurozone, gold will likely remain under pressure, a test of support at 1240 is likely, and the miners will probably continue to sell off as well.
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I saw the article on the "gold price model" in the Daily Digest and it got me curious. What is this gold pricing model? How does it work? How well does it work? Can I replicate it?
Well the answer is, I find it interesting. And yes, I (more or less) replicated it. It is a US-centric model (you'll see why in a minute) but insofar as the world is following in the US footsteps, as long as that holds true going forward it might be a reasonable approximation of what we might expect.
The model itself has three components to it: US national debt, the S&P 500, and the price of oil.
Specifically, the expected gold price equation is: EGP = Govt Debt x Govt Deficit x Crude Oil / S&P 500
It is actually more complicated than that, but those are the basic elements.
Debt loosely represents underlying money supply, deficit represents the amount of new money hitting the system this year, crude oil provides a link to commodity prices, and the S&P 500 represents a competing place for money to flow other than gold. These factors all make sense. Gold does track commodities, rises in the S&P 500 do result in money flowing out of gold, and both the total money supply plus the current change in money supply should effectively represent the current price levels plus the current inflation rate.
The straight model output more or less follows the price of gold over the years – it rallies during the 1970s and it declines during the 80s and 90s, only to rally again during the 2000-2011 period. Then it declines into today.
I think that's pretty impressive. Its not a perfect predictor (and the author actually ends up smoothing out both gold and the model which helps them correlate more closely), but the fact that it generally follows the right directionality says there could be a pony in there somewhere.
My takeaway: I like it because it supports my own observations of what drives gold price movements even just in the daily timeframe. Its not just about BASE or money printing, although those things do matter. Its about money that gets spent immediately into the economy (govt deficit) PLUS the current commodity price trends represented by oil, subtracted by how well alternative investments are doing measured by the S&P 500.
Most attempts I've seen at gold correlation ignore the 1981-2000 period for gold. As the faithful know, gold never drops in value unless manipulated by central banks. So whenever the market gold price doesn't match the model, the discrepancy is used as prima facie evidence for massive manipulation, rather than a flaw in the model. However this author doesn't use this popular cop-out. His model addresses the 1981-2000 period head on without resorting to excuses and that's why I like it.
It also suggests that in order to get higher gold prices, we need to see:
1) higher government deficits, and/or
2) higher oil prices, and/or
3) lower S&P 500 prices
Seems right to me. Although a straight-up crash in the S&P 500 would probably drive gold prices lower, at least temporarily.
Of course, to get the details from Mr Christenson himself, you need to buy his book, which he is clearly flogging. I'm not affiliated, even though it sounds like I might be.
Where does anticipation of global instability fit into this picture? It seems that the four variables in this model are fairly much confined to a business-as-usual, fairly-orderly world system.
Deficits are going higher, at least in the USA, oil prices will trend higher (think war), and S&P 500 is treading water and running out of air. Have to have some balls and allocate more to gold?
1) Does anyone see anything missing in the model of Gold price? I do… and that variable would be this; DEMAND. It points to the absurdity of the situation we find ourselves in today, with a market whose physical price is "discovered" in the paper futures market, that we can have an, "intelligent" discussion here about a model that does not include demand for the actual commodity at hand, even though good surrogates for that (like that which I have linked below) do exist.
China demand for physical is once again, as of the last reporting week, approaching the entirety of world mine supply… but hey.. that's not in the model, right ?
2) Dave said,
Most attempts I've seen at gold correlation ignore the 1981-2000 period for gold. As the faithful know, gold never drops in value unless manipulated by central banks.
This is a really disingenuous statement.. .and in no way does it reflect my view of the Gold price dynamics during that period. I don't know any Gold commentators who do think that this period represents manipulation of the sort we see today. My own view of this past period is that the Gold price dropped because Volcker decided to make fiat money yield higher than the rate of inflation, thus effectively breaking the back of inflation. This was not an easy, nor politically popular decision at the time for a central banker, because it induced a recession.
Gold does not yield. It is world money that has no counter party risk. It thus makes sense that Gold does especially well in periods where the real yield of saved fiat money (which equates to the nominal yield a bank pays minus true inflation) is negative. One such period would be today. Another such period was the late 1970's.
It is not my opinion that central banks manipulated Gold in 1981.. rather they increased the yield of their money so high that people began saving again, in dollars, in order to get the yield. It makes sense to sell Gold if you see a stable future and can get a good yield on your money otherwise. We all know that a significant rise in interest rates would today be intolerable for Governments the world around because their debt levels are so high. It is therefore not in the central bank's playbook to spike interest rates this time… so this time is different (than the late 70's). Very different. End of another unbacked fiat currency regime different. 1981 was only ten years past the final breaking of all ties between the dollar and Gold, only 10 years had passed without a governor on the fiat money expansion process. We are now 43 years past.
If you understand all that I have said, you understand better why the central bankers MUST manipulate the Gold price now… they simply have no other option to make their money seem desirable vs. Gold. They cannot allow interest rates to rise as a means to induce you to sell Gold and save fiat in their banks. They don't even want your fiat… anymore it's just a liability to them. We are in the endgame of the dollar as we know it. Don't let the suppressed price of Gold cause you to miss this reality.
Our birth certificates are bonds floated on the money markets and worth unlimited amounts of credit to the nation state.
Every newborn child when bonded in this manner becomes the future repayment collateral for the credit that was just raised in its name.
Check out the name on all you govt documentation. All caps letters indicates a body incorporated, not a man or a woman but now a legal entity called a person.
Now go to any cemetery and check out how the names on the tombstones are formed…in all capital letters. Here lies the body incorporated, a dead entity. We were only living men and women for the moments that existed prior to BC bonding into servitude.
And that is where all the obligatory debt promissory note paper originates! Sinister eh!
So we can follow Jim, who says that manipulation explains every drop in gold (the famous goldbug letter-writer get-out-of-jail-free strategy), or we can contemplate a model that seems to have predicted the major trends in the price of gold to date without having to "go there" into a world where continuous trend manipulation is the easy answer to every wrong prediction.
This model says, the market price of gold is not driven by some simplistic calculation of current total money supply. Its about alternative places to park your money. Its also about rate of change in government debt (Steve Keen talks about this as well). And its also linked to the commodity complex – gold does track oil at least to some degree.
Interesting factoid: rate of change of the US government deficit has been dropping like a rock for the past few years. That has coincided with the fall in the price of gold. Check out the rate-of-change chart. It roughly sketches out the basic trends in gold over the years. Up into 1980, then down into 2000, then up again into 2008 and then really high into 2011, and then down again.
This also happens to make sense. Big government deficits cause inflation. Small deficits cause less inflation. When traders notice the trend over time, is it surprising that the gold price tends to follow along?
As for global instability, my guess is that is at least somewhat reflected by oil prices. At least in the past, every time there was "trouble" the price of oil would spike. And if it didn't spike, there really wasn't any trouble. 🙂
However I do think your point is well taken. There may come a time when physical gold becomes a hedge against your government behaving badly (bail-ins, 10% wealth taxes, etc), which will likely not be captured by the model. Likewise, the model only focuses on US debt, while the entire world is really in play here; China and Europe are important debt-creators too. The model has its limits.
However, the basic concept I do find interesting – gold tracks a combination of changes in government debt, along with the price of oil, while losing favor when the S&P 500 does well. That's the takeaway here. And it probably works well enough because the US remains the big (economic) dog, at least for now.
As Mr Cheese suggests, do we imagine deficits will shrink or grow larger going forward? And what about the S&P 500? And whither the price of oil once the shale miracle fades a bit?
A deflationary accident and deficits widen, S&P 500 drops, but so does oil. Gold probably drops initially, and then rises again once the deficit expands. That sounds like 2009, doesn't it?
If we have a persistent geopolitical problem, oil spikes, S&P 500 drops, deficits eventually widen. That sounds like its good for gold.
This model is designed to work over "years" rather than months or days. The goal is to give a "fair price for gold" – you can see if its overvalued or undervalued vs the fair price. It also allows you to use it as a predictive tool. "If I think S&P 500 drops to 1000, and the deficit doubles, and lets say oil goes up by 20%, what will gold be?" Model can give you a number.
Well I think its interesting anyway.
Ummmm, Dave said,
So we can follow Jim, who says that manipulation explains every drop in gold (the famous goldbug letter-writer get-out-of-jail-free strategy)
I actually spent some time in my previous post explaining why the Gold price drop from 1981 onward toward 2000 was in fact legitimate and not due to central bank manipulation. I don't think any newsletter writer would make that case either. Whatever. Everyone has to decide for themselves what stories to follow. My story is that the price of Gold is presently highly suppressed.
In any event, while the deficit is less for now, we know that part of that story is the relentless decrease in the overall interest rate structure, which puts less budgetary pressure on debt interest payments. The cumulative debt keeps increasing though.
What is left unsaid (and uncharted) here is the story of the unfunded liabilities, which continue increasing at a relentless rate;
Although the battle over a two-year budget deal and the national debt limit in Washington, D.C. has received the lion’s share of media attention recently , the bigger, more ominous threat facing taxpayers are unfunded liabilities—the difference between the net present value of expected future government spending and the net present value of projected future tax revenue, particularly those associated with Social Security and Medicare.
Why doesn't that count in the model? I will tell you why; Because it doesn't fit the "story". Correlation does not imply causation. My contention is that we have a manipulated market. It's not surprising that someone finds some combination of other variables that seems to "explain" the price behavior. As stated previously, I do get a kick out of the fact that supply vs. demand has no place here, though I understand that this is in fact a bit murky given the very high stock to flow ratio of Gold.
Unfunded liabilities don't cause inflation because until the money is paid out via a government deficit, the liability has zero impact on the real world today.
Promises must actually result in money being actually paid out to real people in order to cause inflation. That's why government deficits are inflationary – they are immediately spent into the economy competing for goods & services with our normal needs. More money spent today chasing same number of goods: presto, prices rise.
If government promises you a fantastic pension when you hit 65, but you are only 50, until it has to start handing you the stacks of crisp FRNs every month for that pension for you to spend on your vacations and endless rounds of golf, that promise is not inflationary.
Promises: not inflationary.
Deficit spending to make good on past promises: inflationary!
Non-spending required for promises yet to be fulfilled: not inflationary!
If that still doesn't convince you, think about it from a practical standpoint. Price inflation happens because more money is competing to buy the same number of goods & services. How many rounds of golf will your personal social security promise made by the government for when you retire 15 years down the road buy you today?
Answer: zero. You can buy zero rounds of golf today with your social security promise dated 15 years hence. That "unfunded asset" of yours provides you no economic benefit today, results in no additional purchasing power for you, and thus, also results in no inflation.
Your neighborhood golf course sees zero added customers from the government promise that has yet to be fulfilled. Greens fees will not rise unless and until those pensions start being paid. That is when the promises become inflationary – when they have to be made good on.
Its exactly the same as if I personally were to verbally promise you 100 billion dollars, deliverable January 1 of 2015. Could you "spend" that promise into the economy today? How many rounds of golf would my promise buy you? Zero rounds of golf, that's how many, and as a result, it would be non-inflationary.
I mean, its fraud for sure. But if you can't exchange it for goods & services today, its not inflationary!
If foreigners get concerned about the unfunded liabilities, that can reduce demand for the dollar and result in higher interest rates and then higher inflation. And weakening $ makes imports more expensive, including raw materials such as tooling and machines.