Investment Demand for Gold Becoming Over-Crowded With Speculators
October 14th, 2009On Tuesday, gold made a new break out above last week’s historic high @ $1062.70. If this move proves to be sustainable, then the implications for its future price direction are obviously bullish.
Gold normally exhibits such aggressive upward momentum during periods of inflation and/or geopolitical stability. Neither conditions exist. Fundamentally, there is no inflation at this stage of the economic business cycle as the high priests at central banks have yet to fully exorcise the demon of deflation. Geopolitically, things could be more stable. Tensions in the middle East and central Asia remain tenuous and unresolved. However, members of the G-20 can hardly afford or are willing to tolerate any further escalation of global conflicts.
The main reason for gold’s bull market is attributed to the demise of the U.S. dollar, which has been brought about by decades of increasingly unsustainable levels of national debt and particularly weak monetary policies in response to cyclical asset bubbles. The dollar and gold, being inversely correlated, are in very powerful primary trends, i.e. respectively bearish and bullish. Support for the dollar could come from raising target interest rates, reducing the Fed’s balance sheet, or shrinking the U.S. national debt. Given the extent of the financial crisis and lack of political will on both sides of the ailse, it is premature and unrealistic to expect any concrete steps toward a permanent resolution to any of these issues. Recent jawboning from the Fed will also prove to be impotent, especially since Australia’s bankers threw down the gauntlet and actually raised rates.
As a side note, Jim Rogers sums up some of these inflationary concerns in his common-sensical homeboy style:
Being somewhat contrarian by nature, I must note the oversold condition of the dollar and my anticipation for a corrective move along with a subsequent continuation of its bearish trend. However, I would not advocate being long the dollar as bears dominate its price trends. Nor would I short the dollar either while it is extremely oversold and MACD is signalling a positive divergence. Instead, at this juncture, I think the safe bet is to be neutral on the dollar. (See Chart #1)
Chart #1: $U.S. Dollar weekly as of 10-13-2009
The price of gold, on the other hand, is being driven by investment demand instead of consumers. According to the Gold Demand Trends report (upon logging in or registering, readers may access pdf link to this report) from the World Gold Council on Aug-19-2009, investment demand rose an annual 46% in 2Q-2009 while demand from jewelry purchases and industrial use were down in the same period.
An analysis of the CFTC’s commitment of traders open interest trends for gold futures and options confirms the increasing speculation by large and smaller non-reporting traders’ percentage open interest for long and short positions as well as the long vs. short ratio ratio of open interest (note that percentages do not reflect non-commerial spreads). Personally, the long side of this trade is getting a bit too popular for me and has all the vulnerabilities of a crowded theatre subject to a fire evacuation. (See table #1 below)
Table #1: COT Futures & Options Open Interest Trends for Gold
| Report | Large Speculators | Commercial Hedgers | Non-Reporting | ||||||
| Date | Long | Short | Ratio | Long | Short | Ratio | Long | Short | Ratio |
| 1/6/2009 | 35% | 3% | 10.90 | 30% | 66% | 0.45 | 11% | 7% | 1.56 |
| 1/13/2009 | 34% | 3% | 10.37 | 31% | 65% | 0.47 | 10% | 7% | 1.52 |
| 1/20/2009 | 33% | 4% | 8.77 | 32% | 65% | 0.50 | 11% | 7% | 1.52 |
| 1/27/2009 | 36% | 4% | 8.22 | 31% | 67% | 0.47 | 11% | 7% | 1.55 |
| 2/3/2009 | 39% | 5% | 8.70 | 30% | 70% | 0.43 | 11% | 6% | 1.79 |
| 2/10/2009 | 40% | 4% | 9.49 | 30% | 71% | 0.42 | 11% | 6% | 1.97 |
| 2/17/2009 | 39% | 4% | 8.91 | 29% | 69% | 0.41 | 12% | 6% | 2.02 |
| 2/24/2009 | 38% | 5% | 7.18 | 29% | 68% | 0.43 | 12% | 6% | 1.93 |
| 3/3/2009 | 38% | 5% | 8.15 | 30% | 69% | 0.44 | 12% | 6% | 2.05 |
| 3/10/2009 | 35% | 5% | 6.55 | 31% | 67% | 0.47 | 12% | 6% | 1.97 |
| 3/17/2009 | 34% | 4% | 9.58 | 33% | 69% | 0.48 | 11% | 6% | 1.91 |
| 3/24/2009 | 34% | 4% | 9.60 | 34% | 70% | 0.49 | 11% | 5% | 2.17 |
| 3/31/2009 | 38% | 4% | 8.99 | 31% | 70% | 0.44 | 12% | 6% | 2.03 |
| 4/7/2009 | 36% | 7% | 5.33 | 31% | 66% | 0.47 | 12% | 6% | 1.97 |
| 4/14/2009 | 37% | 6% | 5.67 | 30% | 65% | 0.45 | 12% | 6% | 1.87 |
| 4/21/2009 | 36% | 7% | 4.97 | 30% | 64% | 0.48 | 11% | 6% | 1.78 |
| 4/28/2009 | 37% | 7% | 5.35 | 29% | 65% | 0.45 | 12% | 7% | 1.85 |
| 5/5/2009 | 38% | 7% | 5.01 | 27% | 64% | 0.42 | 13% | 6% | 2.09 |
| 5/12/2009 | 39% | 7% | 5.21 | 26% | 65% | 0.41 | 12% | 5% | 2.27 |
| 5/19/2009 | 39% | 5% | 7.90 | 26% | 66% | 0.39 | 12% | 5% | 2.33 |
| 5/26/2009 | 42% | 5% | 8.06 | 25% | 67% | 0.36 | 13% | 7% | 1.89 |
| 6/2/2009 | 42% | 4% | 10.46 | 24% | 70% | 0.35 | 12% | 4% | 2.70 |
| 6/9/2009 | 43% | 4% | 10.44 | 25% | 70% | 0.35 | 12% | 5% | 2.50 |
| 6/16/2009 | 41% | 5% | 8.34 | 26% | 69% | 0.37 | 12% | 5% | 2.41 |
| 6/23/2009 | 40% | 6% | 7.13 | 27% | 67% | 0.40 | 12% | 6% | 2.11 |
| 6/30/2009 | 40% | 6% | 7.01 | 27% | 68% | 0.39 | 12% | 5% | 2.43 |
| 7/7/2009 | 40% | 5% | 8.20 | 28% | 69% | 0.41 | 11% | 5% | 2.15 |
| 7/14/2009 | 38% | 5% | 6.93 | 29% | 67% | 0.44 | 11% | 5% | 1.95 |
| 7/21/2009 | 39% | 4% | 9.05 | 27% | 68% | 0.40 | 11% | 5% | 2.23 |
| 7/28/2009 | 40% | 5% | 8.39 | 27% | 69% | 0.39 | 11% | 5% | 2.37 |
| 8/4/2009 | 43% | 4% | 11.51 | 25% | 71% | 0.35 | 12% | 5% | 2.51 |
| 8/11/2009 | 43% | 4% | 11.82 | 25% | 71% | 0.35 | 12% | 5% | 2.41 |
| 8/18/2009 | 42% | 5% | 8.44 | 26% | 69% | 0.38 | 11% | 5% | 2.13 |
| 8/25/2009 | 42% | 4% | 10.74 | 26% | 70% | 0.37 | 11% | 5% | 2.16 |
| 9/1/2009 | 42% | 4% | 10.91 | 25% | 70% | 0.36 | 12% | 5% | 2.30 |
| 9/8/2009 | 43% | 3% | 13.09 | 23% | 71% | 0.32 | 13% | 5% | 2.64 |
| 9/15/2009 | 44% | 3% | 14.60 | 21% | 71% | 0.30 | 14% | 6% | 2.47 |
| 9/22/2009 | 44% | 3% | 14.32 | 22% | 71% | 0.31 | 14% | 5% | 2.54 |
| 9/29/2009 | 45% | 3% | 14.53 | 22% | 72% | 0.31 | 13% | 5% | 2.47 |
Source: CTFC.gov and Hillbent.com’s proprietary database
Unlike the dollar, gold’s momentum, although not as robust as previous upswings, is increasing with prices. Stochastics show the yellow metal is in overbought territory, but in bull markets, such conditions can persist for a stubbornly long period of time.
Chart #2: Weekly Gold as of 10-13-2009
So where to from here? Well gold has already retraced slightly more than 100% of the move from its March 2008 high to November 2008 low. While it trades in uncharted territory (no pun intended), a 161.8% Fibonacci move could push it up to $1265 to $1300 levels (see Chart #3 below). Whether buyer exhaustion sets in before or around these levels remains to be seen. The trend is up, but the trade is over-crowded. Therefore, proceed with caution.
Chart #3: Potential Fibonacci Retracement Levels for Gold
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