Today, as the dollar weakened, gold rallied in response by 2%. Traders also speculate that this rally in gold is in response to the anticipated US Federal Reserve rate cut on September 18th. AUY along with other gold miners also rallied in response.
This morning, with tremendous support from the US futures, European markets and gold, the world optimistically awaits the Federal Reserve’s speech during the conference on housing and monetary policy in Jackson Hole, Wyo. at 10 a.m. EDT.
Currently S&P futures are up about 1%, gold is up about 1.5% and the German DAX is up 1% all in anticipation of good news.
Why is the world optimistic about this? Let me present a few views:
1) President Bush has stated he will expand the government’s role to deal with the subprime mortgage credit crisis.
2) Ben Bernanke is expected to at least give traders and investors clarity about his views on the economy. There is also (somewhat irrational) speculation that Dr. Bernanke will give indications on his Federal funds rate policy decision at this speech.
3) Bond rates indicate traders expect a rate cut in the short term.
4) A lack of volume because of the upcoming holiday makes the US market very volatile.
5) The weakness of the Yen has lent strength to US markets as the carry trade may be winding up again.
All of this is important to consider today. What does it mean?
If the Fed speech gives no clear indication of policy or interest rates we may see market weakness. That market weakness may be exaggerated to the downside because of the low volume. This weakness may be temporary, as President Bush will be speaking around 11AM EDT regarding the subprime mortgage credit crisis. It will be very important to watch bond yields and the Yen today for signals.
Alternatively, if Mr. Bernanke gives the market a high degree of transparency in his speech, and it gives markets the indications it wants to hear about a rate cut, we will absolutely see an unprecedented rally.
My advice? Watch and wait. If you are an experienced trader you may want to trade the speech.
We saw gold drop $14 this week, gold stocks were punished and the market showed a lot of fear and trepidation. With such volatility, you might ask, why do I think gold is good? It’s simple.
That’s right, simplicity. That makes an asset attractive. For the past two years gold has outperformed the S&P 500, Dow Jones and NASDAQ.
If this isn’t enough for you, however, you should note a few very significant facts:
- Gold trades in US dollars. That means when the dollar is weak, gold is strong. The dollar has strengthened recently because of a “lack of liquidity”. Liquidity usually refers to US dollars flowing in and out of different equities and other asset classes. When it dries up, that means there are less “dollars” (whether in hard or soft form) in the system. This creates a temporary boost in the value of the dollar and temporary weakness in gold.
- India and China are now the world’s largest consumers of gold and their appetites are likely to keep expanding. This creates more demand and pressures the supply, thusly raising prices.
- Gold is the world’s oldest asset and is only gaining in popularity and probably the world’s most liquid asset.
- Hedge funds bought gold as an appreciable asset, not fully understanding the implicit lack of hedging this creates when other funds mimic the same behavior. Gold was oversold this week because of investors having to cover their losses in other assets by selling their profitable investments.
Gold is now ready to rebound and it closed today bullishly up $9.70 in to the weekend, indicating investors are willing to stay in their positions. Gold stocks rebounded positively as did the precious metals indices. The overselling that occurred mostly to cover losses is over and the bargain buying has already begun.
The next step is for the Federal Reserve to cut interest rates in September (or sooner). Once this happens, the dollar will further weaken because of the increased availability of credit (which is essentially virtual money flooding the system). This weakening dollar and increased availability of credit encourages investors to flock back towards gold, stocks and other oversold assets.
It may just be time to buy some gold ETFs (IAU, GLD), futures or stocks (AUY). Have a Mooriffic weekend!
Another interesting chart demonstrating how the carry trade unraveling affects all asset classes, including gold. In the chart below I have JPY (vs US dollar) compared with gold (rather than the reverse in my previous entry). As you can see, JPY and gold have a direct correlation, much more than I expected.
Good luck trading!
Gold trades myopically based on fear and greed, generally not taking the larger picture in to consideration (long term: weakening dollar, US economy slowing, inflation growing). As such, opportunities arise to exploit fear and greed to yield a high profit.
As you can see in the image below, gold oversold based on fear this morning that the market would collapse based on credit concerns. I bought here $675.00 because I felt gold, being down about $20 from the day before, was oversold.
As you can see, it quickly rallied to $686.00, where I sold, because I felt the rally was overdone by traders relieved by the Federal Reserve injecting $19B in liquidity to banks suffering from a lack thereof.
That’s basically how the fear/greed trade works. This is a single trade that can span minutes, hours, days, weeks, even months and years depending on your strategy and outlook.
The US Dollar slid vs. the Euro amid expectations of lower economic growth in the US, pushing gold higher. US Markets are poised to open higher as better than expected earnings from General Motors, Waste Management and Sun Microsystems beat Wall Street expectations.
UPDATE: The dollar’s strength was increased by news of slower domestic inflation. This caused a sharp turn-around against the Euro and as a result pushed gold futures lower.