Gold Near All Time Highs

In early January 2021, we authored a brief article on gold.

In that article, we suggested some reasons we thought would be positive for the price of gold.  Since it has now been more than two years, it may be worth revisiting the subject and updating readers of The Prickly Pear on the current status of the gold market.

You can see on the chart provided that at the time we wrote our piece, gold was out of favor and trading around $1,675 per ounce, a level that it retested several times.  It made one final low, slightly below that level in November of 2022, and is now closing in on two previous highs made just above the $2,000 mark.

So far the advance has been orderly.  Since the turn of the year, gold is up about 8%, a slightly better showing than the stock market.  It is up about 21% since the lows last fall. We would be more concerned if gold was “going parabolic” or almost straight up.  Instead, it has avoided excess by backing and filling price action with an upward bias. It continues to climb towards the important old highs and acts like it wants to break them.

Old highs typically provide resistance, since the market previously peaked out at those levels, so getting through the old highs will mark an important milestone for the yellow metals.  If gold is able to do that, investors likely will start to pay closer attention and the market will become more active.

However, as we approach the old highs, gold will either fail again at around $2100 or will break out.  We soon should find out which it will be.

Without rehashing what we said two years ago, the reason gold may be rising is that the investing public is starting to recognize that no progress is being made on the deficit front. On the contrary, politicians of both parties think deficits are of no consequence.  The public has largely been out of gold over the past few years with ounces constantly flowing out of the popularly traded Exchange Traded Funds.  That looks like it is changing.

In terms of speculative positioning among futures traders, again, the public commitment by both traders and hedge funds is quite low.  There is no gold fever at present, and that is good.  There is plenty of room for speculative positioning to grow.

The one big buyer has been central banks, with 11 straight months of adding gold to their reserves.  China has been a particularly active buyer.

Meanwhile, the Biden Administration has introduced another blowout budget, this time without Covid and lockdown serving as an excuse.  And all this came after the Trustees of Social Security announced the insurance fund would be running out of money a year earlier than predicted, in just 10 years.

Rather than shoring up the finances of important “entitlements”, the Democrats are launching huge new initiatives based on global warming theory and even reparations for Blacks.

This is a message most likely that has not been missed by the market.  Either they don’t understand or they just don’t care.  Neither inspires confidence.

But while Biden is spending like mad, the Federal Reserve is trying to reverse years of easy money, fight inflation, and yet must do so in a way that does not break the banking system and/or plunge the economy into recession.  Instead of interest rates “higher and longer”, the FED may have to tolerate inflation “higher and longer.”  The odds of the nirvana of a soft landing seem to be growing more remote.

Clearly fiscal policy is completely out of step with current monetary policy.

Despite multiple increases in interest rates that should be supportive, the US dollar seems to have built a large “head and shoulders” type top, with a significant risk of breaking support around 101 on the dollar index.   Why the dollar weakness?

It could be the markets recognize the FED has finally painted itself into a corner and we can’t get out of the situation without making a terrible mess of things.  Dollar weakness may also portend that emerging powers like China no longer want to play by the Bretton Woods rules imposed after World War II but seek new arrangements not dominated by the US.

The US is now in an extended war with Russia and China is backing up Russia.  Wars are always inflationary and always cost much more than anyone anticipates.

There is increasing talk and actions being taken by other countries to settle trade among themselves without using dollars, pay for oil without using dollars, and hold reserves in a form not in dollars and outside of the Western banking system.  This in our view, is a result of the foolish steps taken by the Biden Administration to seize Russian foreign currency reserves.

Every country from Saudi Arabia to India, to China; saw the example of how the US could seize foreign reserves without any kind of judicial procedure.  Many countries no longer trust the US with their money, fearing exactly this kind of retaliation should they disagree with US policy.

India has been buying Russian oil and not paying for it in dollars and Japan has decided to break the US boycott and buy oil from Russia as well.  Countries generally friendly to the US are breaking out of the US monetary orbit.

Saudi Arabia is thumbing its nose at the US relative to oil production and also signals its intention to follow China’s overtures to restore relations with their arch-rival Iran.  The US is clearly losing influence in key areas of the world.

A weaker dollar historically has been quite positive for gold.  A revamping of the international monetary system may well utilize gold to a greater extent as a reserve and that might explain why central banks are buying gold for their own reserves at the fastest pace in 50 years.

Without requirements to use dollars to settle trade and buy oil, it reduces the demand for dollars, and the dollar then must stand on its own financial foundation, which is shot through with deficits and wild spending schemes.

If gold can break to new highs, what would be the likely upside targets we could expect?

That is very difficult to know, but we do have some history to guide us.  Gold in the 1970s started at $35 per ounce and ran to $200 in 1974 when gold was finally legalized in the US. Gold then fell off and bottomed in 1976 at $100 and moved to $860 by 1980.  Gold floundered for the next 20 years and bottomed out in 1999 just before the beginning of the financial crisis and the 9/11 attack at $250, and ended its move in 2011 at around $1900.

In short, in each previous bull market, gold swung from the cycle low to go up 7 to 8 times off that low.

Since the recent low was just above $1,600 a similar swing could put gold up around $11-12,000 per ounce.  Huh?

Even thinking such a thing makes me feel ridiculous. But that is what has happened in the past, and one has to ask this question:  Is it better or worse today in terms of the background conditions?  In many of those other moves, we didn’t have the money supply soar more the 20% in a year, central banks were not huge buyers of gold, we did not have a banking panic, and dollar hegemony was not being challenged by a rival superpower, and the Democratic Party was not an outright socialist party.  In previous times we were at war for some of the time and no one was imposing additional huge costs on society for “global warming”.

In all the previous cycles, whether you liked Nixon, Ford, Carter, or Bush, there was no doubt that the President of the United States was functionally in charge of his Administration.  That can’t be said about today, can it?

The country was not so nearly divided politically and nobody remotely thought that men could have babies.  We mention the latter, not as an economic condition, but as a statement as to how insane our world has become.

When the insane are in charge of monetary and fiscal policy, and just about everything else, bad things can happen.

It is not irrational to say conditions are worse today.  We lived through all those aforementioned cycles functioning as an investment professional, and we would sadly conclude that conditions today are worse in many regards than those in past cycles.  Debt burdens are much heavier and the character of the people is weaker and more dependent on the government. The rule of law is now seriously impaired and we are close to political tribal warfare.

While trust in government has been dropping, we cannot recall it being this low.  When the value of money is based only on faith and confidence, attitudinal shifts like those we are witnessing are not good for stability.

Therefore, it is hard to see reasons why gold will suddenly depart from previous behavior demonstrated in past market cycles.

But as to what the future holds, whether history is a guide in this circumstance is certainly arguable.  No one really knows or can know. All we can do is tell you what did happen in the past. But in the short term, getting through the old highs does complete a much larger historical formation.

Technical analysts call this a cup and handle formation, and it is an enormous rounded bottom, built over a very long period of time.

The “rules” used in such a formation is the market will generally rise above the rim of the cup line, the distance from the bottom of the cup to the rim of the cup.  Others say you should measure from the bottom of the cup to the breakout point on the “handle”. As you can see, either way of measuring it is around $1,000 dollars.   That would project something around $3,000 per ounce as an interim target using this methodology.

We make no pretense of having the last word on the subject.  None of this is science and history does not always repeat.  But as often noted, history may not always repeat exactly, but it usually rhymes.

The only thing we might offer is this:  if gold can break to new highs, it likely goes quite a bit higher.  How high will depend on how badly monetary affairs are mismanaged.