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Three Reasons to Short Gold Now


Time may be running out for the yellow metal.

Back on May 15, in Gold to Rise Before a Fall, I mentioned that although I was bearish a longer term basis, I felt gold would undergo an important transition that was constructive in the short term. I predicted that gold would move from being traded as a flight to safety play to being traded as a "reflation" play in the context of positive global growth surprises. It was my view at that time that the prospect for a global economic recovery would stoke some concerns about inflation.

Nonetheless, I was clear in stating that I would not be playing gold. First, I was very clear that the eternal expectation by gold bugs that inflation would reignite in the short or medium term was dead wrong. Secondly, I predicted that gold would be a vastly inferior reflation vehicle relative to other commodities.

These predictions have proven to be quite prescient. First, gold did recover as a "reflation" play in line with a surge in optimism regarding global growth, heightened concerns regarding future inflation and worries about the lack of clear "exit policies" of global central banks. Second, gold did indeed underperform relative to other commodities. Finally, inflation has continued to decelerate.

So what is my view on gold at the present time?

In the short term, I see a variety of headwinds for gold. And in the medium term, I see an extremely bearish scenario. Here, I will focus on factors that I think will be operative in the shorter term.

1. Reflation play is fast losing its luster.
Notwithstanding simplistic monetarist dogmas to the contrary, inflation is not coming back any time soon. And the market is slowly coming to terms with that fact. Evidence of disinflation abounds, whether one looks at consumer prices or asset prices. Despite the surge in the monetary base, broad money is not accelerating at a significant rate and credit is contracting. And excess capacity in virtually all areas of the economy virtually guarantees that inflation will be kept in check. Thus, even if the good news on the economy continues for a while, I do not expect this to provide any impetus for the sort of serious inflation fears that could propel gold.

2. Recovery Disappointment.
Diminished expectations of a recovery will essentially take the rug out from under the reflation thesis. As I detailed in Solving the Consumer Demand Dilemma, it is my belief that expectations of a potential V-shaped recovery are likely to be substituted in the medium term for fears of an aborted recovery. This will be accompanied by fears of deflation. Inflation will cease to be a concern. Mish Shedlock's Why Deflation Will Take the Wind Out of Economic Recovery dovetails well with my own views on the subject.

3. Dollar to rally.
As I predicted in my article, 9 Post-Earnings Season Predictions, the US dollar is likely to experience a major rally over the course of the next year or so. As I have explained in several of my articles, the US Dollar is the most fundamentally sound of all of the major currencies in the world, and this basic fact will become increasingly evident in the next 12 months as problems in Europe and Asia begin to deepen.
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No positions in stocks mentioned.
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