Shamik Bhose Gold As Money


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using gold to hedge your asset creation

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Shamik Bhose Gold As Money

  1. 1. Gold is set to continue its record run this year ; Can prices double in the next 12-36 months ie.go to 1240$ -1620$- 2450$ ??We begin Gold and the Dollar with a look at Gold SeasonalitySince the beginning of its long-term bull market gold has tended to be flat from late May throughto mid August. In fact, during the 7-year period from 2001 through to 2007 the average change inthe gold price between 21st May and 15th August was only 3% and the maximum change wasonly 6%. Last year was an outlier in that it produced a 15.6% decline during the mentionedperiod.Here are the details, updated to include this years performance:Year: Net Change in Spot Gold Price Between 21st May and 15th Aug:2001 -2.8%2002 -0.3%2003 -2.4%2004 +3.9%2005 +6.0%2006 -5.2%2007 +0.9%2008 -15.6%2009 -1.0%Clearly, gold followed its seasonal pattern over the past 12 weeks. Lets now look at what we canexpect if gold follows its seasonal pattern over the remainder of the year.Since the beginning of its long-term bull market gold has ALWAYS risen between mid Augustand the final trading day of the year. The gain over this period has ranged from 1.1% to 24.7%,with an average of 11.4%. Moreover, even last years September-November crash failed toprevent gold from keeping this perfect record intact. Here are the details:Year: Net Change in Spot Gold Price Between 15th Aug and 31st Dec:2001 +1.1%2002 +10.5%2003 +14.4%2004 +9.6%2005 +17.0%2006 +2.1%2007 +24.7%2008 +12.0%2009 + 8.25% 17 August to 22 Sept
  2. 2. In other words, the seasonal pattern represents a tailwind for gold over the remainder of the year.The yellow metal is very near its all-time high of $1030 per ounce, reached earlier in 2008’FebAnd its value would continue its unprecedented upswing, now eight years running, amidcontinuing economic and geopolitical turmoil. Seen as a safe-haven investment, the metal doesbest when many other factors are at their worst. With uncertainty in the market about how longthe global credit crisis will drag on, the falling value of the US dollar and fears about tighteningoil supply, have been underlined with rising hedge fund activity, ETF buying from investorsdiversifying and the price has also been helped by falling mining production, which dropped byabout 1 per cent last year due to a sharp decrease in South Africa, home to the worlds largestdeposits. The weakness of the dollar has also contributed greatly to the strong run of the metal, which isdenominated in the US currency and thus becomes more valuable for investors in othercurrencies as the greenback falls. Expectations of further dollar weakening, has led many analyststo predict that the gold price will continue to rise. Some cautioned, however, that it could hit ashort-term speed bump as investors sell out and take profits but that the overall geopolitical andeconomic picture bodes well for the price of the metal.Goldfields, said last year that they feel quite comfortable about gold at $1,200 per ounce in thenext 24 months.Even at those levels, in inflation-adjusted terms, it still has a long way to reach the equivalent ofthe $850 level it reached in 1980. In todays market, that would equal about $2,500 per ounce.Targets of 920$ and then 1030$ shall be seen as a pit stop for gold, occasional volatility andcorrections due to technical and monetary reasons should be taken into account. Thus toconclude we must take into account both fundamental and monetarist reasoning for gold pricerise and a sudden change in either shall bring out about short term profit booking and thusvolatility – this could basically come from the behavior of dollar and the views from the FederalReserve. In current context assuming that there are no more interest rate cuts left in the arsenal ofthe FED to stall any possible credit crunch or the recessionary meltdown from spreading further,dollar will decline. That plus the rise of crude oil prices, which is inflationary is providing a boostto gold. These trends are usually self re-enforcing and the cross current of issues should take goldand silver much higher before the trend tires or its under lying reasons change !! It was said in 2008 * In a desperate effort to revive the economy and the electoral chances of theRepublican Party, the US Federal Government will become the primary engine of debt/moneyexpansion (inflation) during 2008. As a result, the people who doubt the ability of the powers-that-be to maintain a high level of monetary expansion in the face of a tapped out consumer willreceive an "Inflation 101" course. They will learn that there is no limit to the amount of bonds thatthe US government can issue to the Fed in exchange for newly-created currency.Note: The "pushing on a string" analogy often cited in discussions about the inflationary abilitiesof governments and central banks is based on the patently false assumption that every increase inmoney supply will be met by an equivalent increase in money demand with no change in theprice (purchasing power) of money. This assumption goes against basic economic law. Until thelaw of supply and demand is repealed there will be no question that an entity with the power to
  3. 3. expand the supply of money ad infinitum will also have the power to reduce the purchasingpower of the money (bring about a general increase in prices, that is). The challenge facing themonetary authorities isnt to maintain a high level of inflation; its to do so whilst keepinginflation FEARS in check.Is that Provocative; yes it isWe are presently bullish on both gold and the US$, but this does not mean that we expect goldand the Dollar Index to rally together over the next few months. Rather, it means that we thinkthe upside potential outweighs the downside risk in both markets. In the case of the Dollar Indexwe think that a bottoming process is underway and that while this process continues thedownside risk will be limited to a test of the last November(2008) low (74-75). In golds case, thepotential will exist for significant additional gains until the dollars bottoming process is almostcomplete, following which a sizeable gold-market corrective phase via sideways range boundtrade could begin.If the dollars current bottoming process follows the typical historical pattern then it will take3-6 months to complete, after which a strong rebound should begin. This suggests to us thatintermediate-term US$ rally will start before the end of next March and that gold will reachan intermediate-term peak during the first two months of the next year by Feb 2010 (sinceturning points in the gold market usually lead turning points in the currency market) and thiscould be 1240$ per ounce .We expect that that real interest rates will remain low; and that financial market volatility willincrease. If so then the backdrop will remain gold bullish and a US$-inspired 2-4 monthdownturn in the gold market during the first half of the next year will be followed by anotherpowerful advance. Our guess is that gold will end 2010 above $1600, but will trade at a $940-1250 at some point during the first half of the year.Golds upward trend relative to the base metals should continue during 2009…. Also, we expectthat gold will move sharply higher relative to oil. Further to the above discussion, we suspectthat gold is within about 10-12 weeks of an important peak. In the mean time, however,significant additional gains are likely amidst some intense volatility as gold gyrates tomovements in the currency market namely the yen and the Euro amongst the components of theUS$ Index.Gold commenced a secular bull market relative to all fiat currencies, the CRB Index, bonds andmost stock market indices during 1999-2001. This secular trend will peak sometime between 2014and 2020. Commodities, as represented by the Continuous Commodity Index (CCI), commenceda secular BULL market in 2001 in nominal dollar terms. The first major upward leg in this bullmarket ended during the first half of 2008, but a long-term peak wont occur until 2014-2020.US $ index to gold and crude oil --There is a strong inverse correlation between the $ indexand both gold and crude oil. However, crude oils correlation has strengthened while goldshas weakened.
  4. 4. 2007 US $/gold -91%2007 US $/crude oil -96%2008 US $/gold -76%2008 US $/crude oil -82%2009 US $/gold -64%2009 US $/crude oil -96%Conclusion -- if the US $ index stays weak, crude oil was soon set for another rally eventhough there is a seasonal tendency for crude oil to weaken from the last week of Sep until thefirst week of Dec. One can take argument with some conclusions but the strikingly highcorrelations in the $ versus crude oil and the $ versus the gold is persisting and a higher crudeoil price is pro-inflation, thus gold friendly.Current Market SituationSilver versus GoldAs discussed many times over the years, the silver/gold ratio tends to function as an indicator offinancial and/or economic confidence in that silver tends to out-perform gold when confidence isrising and under-perform gold when confidence is falling. As a result, we expect that silver willdo well relative to gold until the stock market reaches an intermediate-term peak, after which itwill become relatively weak. For this reason, SLV (the silver ETF) put options would provide ameans of hedging a portfolio heavily laden with gold- and silver-related investments. This is justsomething to bear in mind. The US Dollar Drivers ;Almost all the international trade in oil is conducted in US dollars, which means, according tosome that a higher price of oil will create additional demand for dollars and, therefore, that arising oil price is bullish for the dollar. This logic is back-to-front, however, because one of themain reasons for the higher US$ oil price is WEAKNESS in the US$.It is true that higher prices will tend to increase the demand for a currency (if prices are higherthen more money will be needed for each purchase), but this is not a chicken or the egg situationbecause prices wouldnt have risen in the first place unless there had been an increase in thesupply of the currency relative to the demand for the currency. The way it works is that inflation(growth in the supply of money) causes the purchasing power of a currency to fall, resulting inan increase in the demand for the currency. (The current price of anything, including currencies,is, by definition, the price that brings supply and demand into balance; so an increase in supplywill always lead to a corresponding increase in demand and, most likely, a lower price). But ifthis increase in currency demand is followed by a further increase in currency supply then morepurchasing power is lost, prices rise again and more currency is then needed to complete eachtransaction (theres a further increase in the demand for currency). This process will continueuntil the currency becomes completely worthless or until the inflation ends.
  5. 5. Phones 0091-33-30512100 Fax 009133-30512020The argument is, in effect, that a loss in the dollars value relative to oil is BULLISH for the dollar,which implies that the faster the dollar loses its purchasing power the more bullish it will be. Thisis, of course, ridiculous.The fact is that the world could make do with almost any quantity of US dollars; the purchasingpower of the US$ would simply adjust based on the dollars supply relative to its demand.Obviously, if the global supply of dollars were to suddenly contract then this could cause bigproblems because todays price levels for assets, debt, commodities, and everything else arebased on the current dollar supply. However, if dollar inflation had been consistently lower overthe past 20 years such that the total supply of dollars was now half its current level there wouldbe no dollar shortage; instead, each dollar would buy, on average, twice as much as it currentlybuys.We are in full agreement with the notion that a contraction in the US current account deficitwould be accompanied by a global economic downturn, but implying that the reduction in thecurrent account deficit was the root cause of the subsequent economic downturn would be akinto saying that a lack of drugs was the root cause of the sickness felt by a drug addict who wastrying to kick the habit. The financial system has become addicted to a high level of inflation andthe solution, according to many others, is to continue feeding the habit.On a side note, there will be no danger of the gold bull market coming to an end as long ascontinuing to feed the habit is widely believed to be the right economic remedy.From trade deficits to budget deficits to GDP-growth differences to the absurd "massive dollarshort position" theory, we never cease to be impressed by the large number of irrelevant factorsthat are regularly put forward to explain and forecast currency exchange rates. In our opinion,the only things that matter over long time periods (periods exceeding 5 years) are inflation ratedifferentials.Specifically, if Currency A is inflated at a faster rate than Currency B over a long period,causing it to lose its purchasing power at a faster rate, then Currency A will be in a long-termdownward trend relative to Currency B. End of story.Over shorter time periods (periods of 6 months to 2 years) the only things that matter are realinterest rates and interest rate spreads, where the real interest rate is calculated by subtractingthe EXPECTED rate of currency depreciation from the nominal interest rate.Another Point of ViewI think most analysts hit the nail on the head when they referred to the way money is sloshingaround looking for a haven. Certainly, I am utterly opposed to the currency debasement that isoccurring. There is also too close a relation between the FRB and the banks and At some point,the FRB will be forced to deal with inflation. When that happens, it will convulse commoditymarkets and the spasms will be measured in nano-seconds.
  6. 6. Money needs a haven to get parked, with hedge fund managers finding the financial markettreacherous, found a life line with strong commodity prices… Higher prices attract moreinvestors…virtuous cycle, till the marginal cost of liquidity far exceeds the expected marginalreturn…The same thing is being played here… we need to watch more technical factors toascertain when that tipping point shall come via……..Open Interest, volume, backwardation,oscillators… Of course in our mind, perhaps the really big questions center on whether the Banking Systemwill survive and whether or not the Dollar will collapse. At present, we believe that a hugeBanking System crisis will be seen in the next 18 to 20 months, and that several large‘mainstream’ banks may end up failing. We also believe that the risk of a Dollar collapse isextremely high, and that an Argentina style Devaluation is brewing up like an afternoonthunderstorm in the tropics. Whether or not a deep recession evolves into a full out Depressionmay ultimately hinge on how much damage is inflicted on the Dollar as the falling dollar hasbeen pushing up commodity prices over time, and in so doing, pushing down real consumerspending.A historical analogy is that during the Civil War the US government printed fiat money (USnotes, i.e., Greenbacks) and cut back on coinage, particularly, silver coinage. This coincided witha huge expansion in the production of silver (the Comstock Lode, Tombstone, etc.). After thewar, the government continued to limit the issue of silver coinage and silver certificates. Minescontinued to increase production of the stuff during that period. Up to the time of WoodrowWilson and World War 1 the issue of what to do with silver was a paramount issue in USpolitics. The Republicans wanted sound money, i.e., gold; the Democrats wanted to expand useof silver coinage and certificates, which would have been inflationary. After the Federal ReserveBoard was established in 1913 the whole issue became moot due to that change. I think that alsocoincided with an increase in industrial demand for silver and mine closures either because theyplayed out or became too costly to exploit, hence the increase in price during and after WWI,which caused a mini boom in mine deliveries of silver, which caused prices to collapse. Then thedepression came after 1929 and the rest, so to speak, is the sad history of currency debasement(silver certificates were taken out of circulation during the 60s when a silver $ became worthmore than a $; the Treasury refused to redeem silver certificates in 1964 and they becamecollectors’ items worth more than silver $).Will we see a repeat of this in certain Western – East European or South American Countries,wherein currency debasement and lack of faith internationally in that countries fiat papermoney shall lead to gold or silver < directly or indirectly >once again as de-facto Phones 0091-33-30512100 Fax 009133-30512020