At Sprout Money we have been advocates of gold for as long as we can remember. In our opinion, every portfolio should have some exposure to the yellow precious metal regardless of the profile of the investor.
It is one of our favorite investment themes and it will remain to be so for a long time…
The reason for that is simple: the gold price has been in a secular bull market since the year 2000. We stick to that view despite the fact that in 2011 gold fell into a cyclical bear market and started crumbling just short of 2,000 dollar per ounce.
Different elements were at the source of gold’s decline:
- First and foremost competition came from the stock market, which has been in a cyclical bull market since 2009 on the back of the financial crisis.
- Secondly, the dollar has been gaining momentum again and makes gold look like a less attractive investment.
- The overall sentiment is a third element that cannot be underestimated, however, and is related to psychological factors and the media.
A majority of participants of the weekly Kitco News Gold Survey indicated that they expect the gold price to decrease, for example. In their opinion, gold will have a tough time dealing with the improving macroeconomic landscape in the US and the looming interest rate increase.
As Kitco states: "Out of 37 participants, 24 responded this week. Of those, five see higher prices, 18 see lower prices and one sees prices trading sideways. Market participants include bullion dealers, investment banks, futures traders and technical-chart analysts."
That is all nicely visualized on the infographic below.
It is important to know that most of the participants in these kinds of polls are gold bugs, which makes the result even more clear as a reference to the sentiment surrounding gold.
And then there are the classic ‘short sellers’ in gold, of which one can wonder what their hidden agenda is. Goldman Sachs, for example, stated on CNBC just last week that they are sticking to their original 1,050 USD per ounce price target for the end of the year.
Their commodity specialist gave his usual speech about the fact that safe haven buying because of the crisis in Iraq and Ukraine and the recent quantitative easing in Europe and Japan have supported the gold price a little bit.
According to this analyst the Fed is playing the part of the bad guy here, which is why he advises to short gold. The appetite for short selling is quite noticeable actually, judging by the open interest on the gold markets.
From a contrarian standpoint, that is more a symptom of a market that appears to be bottoming out than of an imminent crash, however. Meanwhile demand from retail investors seems to be stabilizing as well, as demand for gold coins like the Krugerrand or the American Eagle is slowly picking up.
And without anyone taking the time to write about it, physical gold deliveries in Shanghai doubled over the last two months. As with many things: if no one writes about it, you will find the truth at Sprout Money ;-).
The stronger demand for physical gold has the effect, moreover, of increasing the gearing of the shorts on the paper gold market.
Nevertheless, it seems like short sellers have tightened their grip on this market; open interest in gold increased which, in combination with a lower price, confirms that futures are being driven by an increase in short positions. The chart below makes that clear, especially from the 27th of August when the decline started.
This is another indication of the fact that the gold market is bottoming out.
The last thing you want to do now is state that a stronger dollar automatically leads to lower gold prices, because the recent momentum in the dollar has mostly been the consequence of weakness in other currencies; think of the strong decline in the yen as a result of the weaker Japanese economy. The ECB lowered interest rates to practically zero, and the British pound is sweating because of Scotland’s independence campaign.
A more plausible analysis is that the investment community is still not worried about systemic risks in the financial system. The stock and bond markets are still doing very well, although volatility has picked up a bit. The perceived risk has declined.
But in the longer term there are plenty of risks left in the system and demand from growth markets will remain strong as well. Many countries in the Middle East and the Far East are still net buyers of gold; the demand from the central banks of China, Russia, etc. remains strong.
The chart below makes that quite clear!
Russian gold reserves 2011 - 2014 (per ton)
Decreasing exposure to gold in your portfolio therefore does not seem like a smart move at the moment. It would be like cancelling your Florida hurricane insurance in June. Keep gold in your portfolio and profit from this temporary weakness in the yellow precious metal’s price and the sentiment on the market.
Those investors who like to time their purchases probably know already that September is the best month to buy gold as well, as evidenced by the following chart.
Gold has gained 3% on average in the month of September over the last 20 years, far ahead of November (1.8%) in second place.
The interesting part is that this usually is the result of a comeback from weaker circumstances, which is exactly the situation where in right now. Especially the weakness in the price is remarkable.
The coming months are definitely looking up for gold based on seasonal factors in countries like India and China, moreover, and it is most probable that the gold mining sector will capitalize on the revival.
In short, the current weakness in the gold price will once again be considered as a unique buying opportunity in hindsight. Unfortunately not many investors make use of these kinds of opportunities.
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