Gold Rush 2010

By Tom Spence, October 2, 2010

Image courtesy Creative Commons BullionVault

Image courtesy Creative Commons BullionVault

Uncertain times are driving investors to buy gold, pushing the price to over $US1,300 per ounce. Some are hoping to sit back and make a killing - others are nervous about the state of the global markets. Is gold heading for $1,500, or even $1,800? Is this a prelude to a currency war or is it just that the smart money has nowhere else to go?

When investors get nervous, they put their money in cash, when they lose faith in the markets, they buy gold. This year, the price of an ounce of gold has risen by over 25%. Stock markets, bond markets and currency speculation are no longer a temptation to some investors so they buy into gold in one way or another. The key factor is that gold offers no dividends and no yield except for the price movement so investors have to be so disillusioned or so ill-rewarded that they are happy just to lock in the current value of their assets. It is a pessimist’s dream.

Some investors are clearly speculating as they see that a gold rush is on and they are hoping to see massive price gains as the pundits are now talking about a gold price that knows no ceiling. Some are saying it will hit $1,500, others $1,800, the talk is wild.

Why are investors buying gold? Some are hoping to sit back and make a killing but others are very very nervous. So what are they afraid of? Well, just about everything: inflation, deflation, a double dip, a Chinese real estate bubble, a currency and/or trade war between China and the USA, another US stimulus package, an Irish or Portuguese meltdown, bonds that yield next to nothing and stocks that are only for mugs, except for a few stocks on the wilder shores of emerging markets like China and Russia which frankly do not pass the sanity test as they are both markets with no genuine domestic demand. It is all hot FDI and domestically it is all stimulus money. You would have to be crazy.

Investors also know that it does not take much to move the gold price, talk it up, get a decent number of people to take the bait and the price hits the ceiling, it is a small market and easily inflated. Buying gold used to be the stuff of Central banks but getting your hands on gold is easily done, buy gold coins, or if you are a traditional investor invest in an ETF (Exchange Traded Fund) that will track gold for you. It is now like buying stocks, you can do it from your living room.

Alan Greenspan said of gold “Gold is the canary in the coal mine to keep an eye on. It is a signal there is a problem with respect to currency markets globally”.

Investors are worried about the global economy and its structural inadequacies that are still waiting to be ironed out and above all they are worried that government fiscal policy is no longer working, the levers of Treasuries globally are not working as they should. Interest rate changes and quantitative easing are no longer effectively steering the economy. The gear box is stuck in neutral.

Uncertainty drives people towards gold, and silver too as a poor cousin of gold that shines in difficult times in a reflected glory. Currencies worldwide are slugging it out in competitive devaluations, China and the USA being the main participants in the battle but there are countries on the sidelines who are suffering collateral damage, Japan and Russia for example.

Traditionally a rise in the dollar pushes up the price of gold as the price is denominated in dollars but this time the rise in gold is a reaction to a weak and unmoving dollar which means that there are other dynamics at work – mainly diffidence about the markets as a whole.

Gold has that extra attraction as many investors believe that the gold market lives on the margins, unaffected by business and economic cycles, so it is the perfect safe haven, while other assets are taking a dive, it lives on in a sanitized word. Or so the theory goes.

There is also a dearth of assets to buy. The dollar is weak and will stay that way, it suits the Treasury. The Euro is a frightening prospect as everyone knows that the sovereign debt crisis has yet to begin. So where do you turn, buy the renminbi? It is an artificial market and hence unsafe and you wouldn’t be welcome. You would be the last to know what was going on.

There are those that are shouting that the gold price is set to shoot through the roof, the more canny or cautious already say that it is set for a fall as the news is out and if the chattering classes are talking about gold, it is by definition too late.

The situation is anomalous, no country wants a strong currency, they all want to stay flat or devalue, everyone is trying to shift the value to their neighbor through competitive devaluation but there is still a great deal of cash out there that needs a home so what to do, buy gold? What else? Just wait until the hedge funds and the pension funds jump on the bandwagon, watch the gold price take off. Will gold become an alternative to messy currency trades? Just buy and sit and leave your Bloomberg screen alone. What could be simpler?

So is it just the start of a bull run on gold or are we just moments away from a gold bubble. Nobody knows, but fund managers still have to make a buck and above all be seen to make a buck. The smart money this time has nowhere else to go.

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