The price of gold dropped 9% on Monday, after a 5% drop on Friday. Here, a selection of seven writers from the Minyanville community share their insights on what the slump means for the markets and beyond.
Is This a Liquidity Event?
By Michael Sedacca
There are a number of reasons why gold could be selling off, but overall the recent activity is representative of the deflation in the bond market that we’ve experienced since mid March. One potential catalyst, of the many, is that the Cyprus government is selling its roughly $650 million of gold holdings. One of the main investment theses for gold over the past four years has been that central banks will be large buyers of gold, even though they are flooding the system with reserves (commonly referred to as “printing money”). Now that mentality may be changing, and it’s a shock to the system.
Over in the Treasury market, ever since the mid-March time frame, the curve has continued to sharply flatten, which is a deflationary signal. The 5s30s curve has tightened from 239bps to 219bps. Five-year inflation breakevens (or inflation premium between TIPS and nominal bonds) have tightened from 2.42% to 2.095% -- though to be fair TIPS are sensitive to commodity prices. It’s likely that precious metals are catching up to this activity.
From the FX perspective, in a sense you can say much of this is due to the rapid fall in the yen, especially vs. the dollar. In a sense, Japan has been exporting their deflation to the US by pushing down the price of the yen. Year-to-date, the dollar index spot is up 3.1% and the trade-weighted dollar has gained 1.3%.
Is this is a liquidity event? It very well could be. Today’s volume in the June COMEX gold future stood at 751K contracts by the time the floor session closed, surpassing the prior record of 486K. This is over two times the current open interest of 274K contracts, and almost two times the highest previous volume, which speaks to a capitulation event. It also means that there is a large amount of trading and not purely selling as well.
While I’ve never been a fan of gold investments, I am seeing capitulation in gold ETFs such as SPDR Gold Trust
(NYSEARCA:GLD). Year- to-date, GLD’s fund size has shrunk from 448 million shares to 383.6 million shares as of Monday's close. On the other hand, the physically backed gold Physical Swiss Gold Shares ETF
(NYSEARCA:SGOL) hasn’t seen much movement.
Lastly, I think there is one variable that should be taken into account with gold. For the vast majority, in terms of safe haven demand, gold is an “emotional” hedge, whereas Treasury bonds are an “inflation” or “growth” hedge, so gold typically overshoots in both directions. Further on that, over the past three years, gold has been purchased by speculators as a “central bank hedge” of sorts, often on a misunderstanding of monetary policy. This is evidenced by the liquidation out of GLD in the face of numerous central banks conducting unprecedented monetary policy.
Michael Sedacca is the editor of Minyanville's Buzz & Banter. He comes from Orlando, Florida, and played college golf at the University of North Carolina - Chapel Hill. Read more of his work for Minyanville, here.
Goldfinger Meets the Lady or the Tiger
By Peter Atwater
At the end of 2010, the European debt team at Morgan Stanley
(NYSE:MS) offered this thought:
The bonds of several peripheral countries, while still being government bonds in name, no longer offer the advantages of a government bond -- safety, liquidity, low volatility and a negative correlation with risky assets…Hence, investors running a traditional government portfolio are exiting those markets. In short, peripheral government bonds have become an asset class in search of a new investor base.
What brought this quote to mind this morning is the collapse in gold -- and for that matter the collapse in Bitcoin values last week. Both were perceived to offer safety and liquidity in a world of devaluing fiat currencies.
(See also: The Basics on Bitcoin: 11 Things to Know About This Suddenly 'Hot' Digital Currency.
Today, neither is safe.
As one who has worried about the bursting of the bubble in all things safe
for some time, I can not emphasize enough what a critical market juncture we are at today.
From my perspective, one of two things is about to happen:
Either a) investors will extrapolate the collapse of Bitcoin and gold to the notion that nothing is safe, or b) investors will extrapolate the collapse as signaling the end of the bear market and equity values will soar and bond yields will rise as investors celebrate the end of the fear trade.
I wish I could offer a strong view in one direction or the other, but to do so today would be woefully premature.
Like dot-com stocks in 2001, gold is now dead. Like all other post-mania investments, it has not performed as expected and it is an investment in search of a new investor base. The question is what now arises in its place.
What is ahead is the ultimate "risk on" or "risk off" trade. Either everyone or no one believes.
Peter is the President and CEO of Financial Insyghts LLC. He is the author of Moods and Markets: A New Way to Invest in Good Times and in Bad. Read his recent articles, here.
A Disturbance in the Force
By Michael Comeau
I've had no opinion either way on gold, but I will say this: I don't like these types of market dislocations.
Looking back to the end of 2007 before the market meltdown, it felt like things were 'breaking' all over the place -- credit spreads were blowing out, the VIX
(INDEXCBOE:VIX) was climbing upward, and the homebuilders and financials were performing horribly. There was definitely something nasty in the air well before Lehman and Bear collapsed.
Incidentally, the safety/inflation insurance play -- gold -- was skyrocketing.
Now, I'm worried that the collapse in gold -- and silver (NYSEARCA:SLV) for that matter -- also qualify as early dislocations of trouble to come in the markets. I certainly don't like the way oil is acting right now!
On the upside, the persistent bid for Treasuries indicates that at least some market participants are braced for a shock -- and possibly some real profitability. If, and this is a big if, we are unknowingly walking into a 2008-2009 style mess, the long Treasuries trade (which I am not in, to be clear), even at these nosebleed levels, may look incredibly prescient.
Michael Comeau edits Minyanville's Buzz & Banter, and is also a regular columnist on Minyanville.com, focusing on technology and consumer stocks. Read his recent articles, here.
Gold, Diamonds, and Bitcoins
By Andrew Keene
Gold is breaking down and is currently down more than $515 from its all-time high of $1,894. The price is getting slashed more than 5% from Friday in the worst sell-off since 1980. We have heard all the rumors from Cyprus liquidation, to fears of Italy and Portugal, to George Soros selling. To put it simply, anything in this world is worth the difference between what a buyer is willing to pay and a seller is willing to sell it for. In this case, it is gold.
Gold does not have much industrial production and it does not offer the same value to the world as oil, silver, and copper. Easily put, what is the difference between gold and diamonds -- or even bitcoins. The problem is that the more countries that own gold, the more they have to sell it once it breaks down. Nothing is a one-day event and I think gold could decline further as the next downside support on the monthly chart does not even come in until $1,200.
Andrew Keene is president of KeeneOnTheMarket.com (KOTM). He has been a market maker on the CBOE floor for the past decade and at one point, was the largest on-floor independent Apple options trader in the world. Read his recent articles, here.
The Yellow Metal Has Made Its March
By Peter Prudden
This is the first true asset class liquidation we have witnessed since the fall of 2011, and during that time, as gold traded into $1,900 an ounce, we told you to be on a bubble alert per the charts below. Todd Harrison, Michael Sedacca, and I all pointed to a similar pattern witnessed in crude oil during the early summer sizzle of 2008. Many will point to the fundamental long term approach on gold; few understand that during the dog days of our country's debt downgrade in August 2011, gold priced in most of its long-term upward appreciation. What we have now are latecomers holding on to the belief that currencies will blow up based upon accommodative policy measures initiated by global central banks, which essentially aligns their view with a point of no return. A value investor should turn a blind eye to this current crash-like state, as I believe the yellow metal has already made its march. Investors who were keen to the upward appreciation dating back to 2002 have long left the party. Loose hands and laundromat owners are left holding the bag with the belief that human psychology can't be sold.
Peter Prudden is the General Partner of SISU Advisors LP and the Managing Member of Prudden & Company LLC. Read more of his commentary, here.
No "Plunge Protection Team" This Time
By Filippo Zucchi
My sense is that gold is getting liquidated in no small part because of the orgy of structured products that were created and sold to investors near the highs through the lure of fat “yields.” Those promised yields were little more than the proceeds from the sales of covered call, strangles, or collar-type options strategies on the GLD or the futures; the moment the price knifed through the protective strikes investors were effectively left long the GLD/metal without protection. Considering these products were marketed to folks who probably have no clue how options work, it’s easy to see how they would dump at the first mention that their “magic yield” went missing in action, and they were long a chunk of metal to boot. Throw in all the other reasons/excuses (Cyprus, China, etc, etc, etc) and it’s 1987 all over again, only this time with gold/structured products rather than stocks and portfolio insurance.
The 20%-plus single-day crash in 1987 was only a blip in a secular bull market for equities. The added problem for gold is that there is no “Plunge Protection Team” to swoop in and buy futures they way they did the morning of October 20, 1987. The gold beating will indeed continue until morale improves, that is until some very sad/unwitting gold owners are wiped out. That will make relying on technical levels much harder than normal. Waiting for the selling to dry up is much more prudent. I’ll likely miss the first “V” spike off the bottom, but I doubt large buyers will move the price as they accumulate, so I am not really concerned about being forced to chase.
Full disclosure from Monday, April 15: I was stopped out overnight of my entire long gold futures position at $1,450, including a recent small add at $1,492.
Fil Zucchi is the founder and manager of Zebra Investment Advisors LLC, a Virginia registered investment advisor, and Zebra Fund, LLC, a long/short hedge fund. He is a frequent contributor to Minyanville. Read his recent articles, here.
Stocks and Metals Get Crushed: Now What?
By Todd Harrison
Below is an updated chart of commodities vs. the S&P
(INDEXSP:.INX). I opted to begin this juxtaposition at the beginning of 2009 as that’s when the system formerly known as capitalism began stretching its legs.
You will note that the commodity complex led stocks higher before peaking in 2011 and trading lower. Stocks followed -- but suddenly reversed course and continued higher -- at least until yesterday. I won’t offer that this was a function of government intervention as it doesn’t really matter; in markets, as in life, we must trade the hand we’ve been dealt, not the one we want.
There are two camps out there; I’m sure you’ve heard whispers from both.
Camp 1: The carnage in gold -- a 15% loss from Friday to last night’s lows -- is bullish as investors migrate away from the “fear trade” and cash readies to deploy into stocks. Gold rallied on geopolitical uncertainty and/or as a fiat currency hedge; as our world becomes a better, safer place, as evidenced by the strength in credit markets and the oft-mention rally to all-time highs, gold is a source of funds for riskier assets.
Camp 2: There are no "safe-havens” in financial markets (we were taken to task for asserting this in September 2011
when gold was at $1900). And while circumstances have changed—credit markets and balance sheets are buff due to previous and current policies—our current situation is not entirely dissimilar from what we shared in September 2008
; this time, however, instead of "credit" we can insert "psychology" or "trust" in the passages below:
Minyanville has monitored these cumulative imbalances since 2006 and discussed The Writing on the Wall
The credit crisis has already infected the economy, starting with the homebuilders, spreading to the financials, engulfing financials in drag such as General Electric
(NYSE:GE), General Motors
(NYSE:GM) and Ford
(NYSE:F) and will eventually phase through retail, technology, credit card companies, and commodities.
That’s the orderly scenario, a stair-step through industries until debt is destroyed and a more sustainable economic foundation takes root. It’s akin to credit cancer, and once it spreads through our entire financial body, we’ll be in a position to enjoy the long-discussed globalization-themed “outside-in” recovery.
The other option is an outright car crash, a collision where credit seizes, capital markets freeze, price discovery permeates, and social mood shifts as we come to terms with the new world order. Neither of these options is something one would wish for, but hope has never been a viable investment thesis.
Yes indeed, the “other side” of all-time highs is the swift and sullen shift in social mood, a theme we’ve fingered for years but wish we missed.
I’m not saying its game-over. I’m simply sharing the scary truth that the world is a fragile and dangerous place despite the price action in the marketplace; and when—not if, when—that shifts, we’ll have to absorb, digest, and navigate the repercussions, for we didn’t take our medicine after the first phase of the financial crisis; if anything, we simply took more drugs that further masked the symptoms.
Todd Harrison, founder and CEO of Minyanville Media, Inc., has 21 years of experience on Wall Street. He is the author of The Other Side of Wall Street: In Business, It Pays to Be an Animal; In Life, It Pays to Be Yourself (FT Press, 2011). Read more of his work for Minyanville, here.