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Gold Resisting the Liquidation


Gold bulls who remain patient should be rewarded when all the dust settles.

A lot has happened since I left a week ago for vacation. Credit rot and the credit crunch have spread, and it's beginning to threaten the system to some extent (see what's happened to Countrywide Financial (CFC) over the past two days: its potential bankruptcy could take down a few banks as well). How soon will the Fed be forced to panic in order to preserve the system? We may have gotten a clue to that yesterday with the record plunge in the 3-month T-bill yield.

As you can see from the chart below of the spread between the 3M T-bill yield and the Fed funds target rate, plunges of this magnitude have always been followed with a Fed panic within days or weeks over the past 20 years. The Fed is already temporarily "easing" by pumping massive amounts of money into the system, but the data below says they will eventually be forced to make a permanent cut. Note that today's widening of the 3M to Fed funds spread to 144 bps below fed funds is even wider than the plunge in late December of 2000 that occurred just seven calendar days ahead of the Jan 3, 2001 rate cut and wider than the plunge in 1998 as well.

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The statistical data below shows us the same data.

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The gold shares have been dragged down of late by the general equity market contagion (margin calls, hedge fund liquidation, etc) and are now back to the bottom of "the trading range" again.

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But note how gold (in white) has resisted the liquidation of the past three weeks and remains just off its high despite the recent bounce in the dollar index (in red), as gold is now beginning to firm in all currencies.

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Also note that the gold/Industrial metals ratio is breaking its downtrend since 2003, as gold is once again becoming a "store of value" and a "currency" like back in 2001-2002 rather than just "another metal", as was the case from 2003 to 2006.

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The Fed will eventually be forced to panic and run the printing press because what is happening in the credit markets began with the housing bust and will end with a sledge hammer to the U.S. economy, in my opinion. When the Fed does finally panic, gold should explode, and it should carry the shares up as well. Gold bulls who remain patient should be rewarded when all the dust settles.
Position in gold shares.

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