Hi Doc, I just wanted to see if you have the same opinion as me. I keep remembering about July crude oil when nobody thought it would drop this much. I see the same scenario with Gold. All you hear is that Gold is the new currency people can trust (figure of speech know gold is a metal). Anyway I see Momentum bearish divergence, seasonal down and a Overbought Stochastics. I remember your last Coaching Call and you saying that sometimes you have to go with your gut and not what the rest of the world thinks. I want to personally Thank You for all the hard work you do, while being the busy guy you are. I have been watching charts every night and getting educated for the last five years now. I think your course will be the hammer, to send me on the right track in this new and changed electronic trading world. As novice you do not want to believe in money management until you have lost money learning and one day you wake up and tell yourself it's easy if you believe in patience, discipline and money management.
---Best Regards Cleo
Answer:
I was thinking about gold --- and why I don't consider it an investment --- last night on the way home from working on research at the graduate school. Gold is no longer a monetary / fiscal instrument. In fact it was retired from the gold standard because it was far too blunt being unlinked to macroeconomic factors policymakers ultimately try to influence.
That means that many people are applying an old paradigm to what has really become a simple physical commodity.
Gold is simply another physical commodity in an asset bubble. The worst time to buy into a bubble is in the hype at the top — which is where I believe we are now.
Here's a nice excerpt from a recent article to substantiate my point concerning asset bubbles:
"This crisis is not merely the result of the U.S. housing bubble's bursting or the collapse of the United States' subprime mortgage sector. The credit excesses that created this disaster were global. There were many bubbles, and they extended beyond housing in many countries to commercial real estate mortgages and loans, to credit cards, auto loans, and student loans. There were bubbles for the securitized products that converted these loans and mortgages into complex, toxic, and destructive financial instruments. And there were still more bubbles for local government borrowing, leveraged buyouts, hedge funds, commercial and industrial loans, corporate bonds, commodities, and credit-default swaps — a dangerous unregulated market wherein up to $60 trillion of nominal protection was sold against an outstanding stock of corporate bonds of just $6 trillion."
—From Warning: More Doom Ahead, January/February 2009 by Nouriel Roubini, Ph.D., professor of economics at New York University's Stern School of Business and chairman of RGE Monitor (www.rgemonitor.com), an economic and financial consultancy.
Why Now Is NOT The Right Time To Buy Gold
I am known for teaching stock investing but I actually started as futures and futures option trader in physical commodity markets. I quickly became aware of a very committed cult of investors called “Gold Bugs” in the futures trading community.
These are people who are always bullish on gold.
They have their own community, myths and lore. They tend to be older, 70-90 years old. They were socially aware during World War I or II.
They don’t necessarily believe in UFOs, bigfoot, or the Loch Ness monster but they do have a firm belief that the world is going to fall apart and the only thing of value people will run to is gold. Here’s how this quirky way of thinking came about…
A Brief History Of Gold
During the late nineteenth and early twentieth centuries, the United States, along with the other major world economies, was on a gold standard that lasted about 30 years. Under the gold standard, the amount of currency in circulation was backed by gold.
Each country defined its sovereign currency in terms of gold and agreed to buy or sell unlimited quantities of the metal at a pre-established price.
A gold standard comes under strain if countries experience different growth rates. For instance, suppose that a gold standard was in existence and that the United States was growing faster than its neighbors. The US would find its imports growing faster than exports. In the foreign exchange market, the quantity of supplied of dollars would be greater than the quantity demanded.
Foreigners would tender their dollars to the U.S. Treasury to redeem for gold, and America would lose its gold supply. As the United States loses gold, its money supply falls without any depression of output, jobs, and other macroeconomic variables that would counter-balance the drop in gold reserves.
If policymakers wanted to stimulate the U.S. economy they would have to devaluate the U.S. dollar under the gold standard — so that fewer dollars converted into an ounce of gold. Devaluation is an increase in the number of dollars that have to be presented to the Treasury per ounce of gold for redemption.
Fear Frequently Drove The Gold Standard Into Financial Crisis
When this situation arose fear of devaluation made more foreigners redeem more dollars.
Dollar savings accounts were also converted to gold as families sat and waited for devaluation. They knew that they could convert back to more dollars if the Treasury decided to devaluate.
Between foreigners, and savers, converting to gold the loss of precious metal reserves became so great that financial crisis was common under the gold standard — crisis that had nothing to do with the open economy. All this led to the end of the gold standard as redemptions were suspended and the par values among currencies had to be redefined.
Gold — The New Base Metal
Today, major currencies operate on a floating exchange rate in pairs. Under the gold standard the metal was as much a financial asset as a physical commodity but no longer is that true. Now that gold has no connection to currency it has no economic meaning in terms of security nor as an inflation hedge.
Let me explain…
Gold has become a true physical commodity. The primary sources of demand are Jewelry fabrication and industrial applications. Physical commodities operate under the law of supply and demand much more so than financial commodities.
When prices are extremely low consumption increases and production drops. At some point the market starts going up in price. If the commodity is actively traded in the futures markets the increase in price attracts speculators who continue to drive the price up.
If a price bubble builds in the commodity — as we just saw in oil — a big part of the reason is the “pile-on-behavior” of speculators in the middle of a big upward move.
As price get ridiculously high, news from the media is created that tends to provide evidence of why the commodity HAS to keep going up in price. This is exactly what happened in oil this summer.
Then oil crashed!
The reason oil crashed is that consumers could not keep paying ridiculously high prices. At the same time oil producers increased output to take advantage of unusually high profits from high oil prices. This had the effect of destroying demand.
As soon as the market broke the speculators sold; ramming down even harder on an already bullish market.
The end result is that oil prices are at very low prices in the winter relative to last summer’s historic high oil prices. At that time I was recommending long puts to take advantage of the likelihood of a drop in oil prices.
I am making the same recommendation in gold today. The long term price chart of gold futures below looks very similar to the long term price chart of oil futures last July.
Now is a good time to sell gold on Ebay --- at the top price!-Doc Brown
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