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Gold: Stronger for Longer?


What to do at this stage in gold's journey.

Editor's Note: The following was posted in real time on our premium Buzz & Banter (click for a free trial).

For starters, gold's resiliency has been impressive, a one-of-a-kind type of fortitude, even as commodities all around it -- from copper to oil to corn, you name it -- have experienced sharp corrective declines on pace with the general equity retreat in the US, Europe, and most notably, China. Over the years, my trading style has been top down -- figure out the most macro of issues and then apply traditional, historically based relationships to "predict" future price movements of less macro, more specific entities like metals and energies. From time to time, the highly useful method of evaluation fails to address certain unique fundamental elements that will override historical relationships. When the price action over a period of time begins to stray too far from what may have been expected, thesis deconstruction/reconstruction is essential. This is where I am now in regards to the metals, most specifically, gold.

Yes, it's true, the subject of gold has become a hot topic. Certainly much hotter than when I first began to dabble, sub 300USD/ounce in price in the early part of this new millennium.

In the beginning, right as me and a small group of investors were about the prospects of gold, it was two steps forward and one step back. The mythical gold cartel (I won't elaborate for brevity's sake) would come in every once and awhile and hammer the price, all in what can now be called a futile attempt to preserve the status quo -- namely that big banks were heavily short paper gold, and that gold was in a bear market.

Fast forward and we've come to understand, with each previous breakout drive, that a certain capitulation of all but the biggest entities formerly playing this game of shorting mass amounts of paper metal against most reasonably concluded smaller amounts of physical metal has occurred. Ted Butler, noted silver analyst, commonly refers to these banks as the raptors, no longer under the clutches of a game gone increasingly sour. The raptors, coupled with a more expansive base of investment interest, has definitively changed many things, including just how one reads the formerly reliable, almost to a tee, COT reports.

As a bull market ages, all of this is expected; these challenges are what we're here to analyze.

I've been talking recently about this phase 1, phase 2, phase 3 bit for gold. I've spoken about many of the expected characteristics of each phase. According to the theory, phase 3 is the final, most mature stage in a gold bull. It's the most explosive stage, the one where more than 90% of the gains could be registered. It's with good reason then that I continue to ponder if it's the infancy, the pregnancy, of this stage that we're witnessing now. If so, clear strategies will emerge.

Additionally, a gold bull's maturation to a full blown parabola leaves one wondering what catastrophic catalysts would drive it there, and more importantly, exactly what it means for our lives, these paper nest eggs many have carved out for themselves. Monitoring this unfolding situation, in my view, is as essential as diet and exercise (though I'm fair at the former and just plain awful at the latter).

Gold rising in all currencies, wider participation, longer up moves, quicker rebounds, shallower dips, less relation to the USD -- these are all theoretical characteristics of a phase 3 gold move and they've all been occurring since late last year. It makes you think. Here's my consideration: During breakout drives past (of which there have been two), we've seen some of these characteristics assert themselves, but for brief periods of time. Now in June, a shaving from its all-time high, gold is proving that these positive occurrences aren't nearly as fleeting as in the past. Sure May featured an 85-point bashing from high to low, but May is often the cruelest of months, and we've rebounded strongly. We actually set a fresh high days ago, triggering a technical sell signal, which we've been digesting over the past few sessions.

The sell signal was a trend line that connected the December 1225 high with the early May 1248 high. Moving lower left to upper right, as all trend lines connecting marginally higher peaks do, I extrapolated a price in the 1255-1258 region. Giving a few bucks to the locals would have had you out at the top. But none of this matters much. What's beginning to matter more is the fundamental question of "What is gold's price action telling us, and, ultimately, what does it suggest about our future?"

Believe me when I say this, and here's the risk, in a perfect "hedge all paper assets world," the price of gold is far higher, no 300 or 1,000 points can do that scenario justice. Short of that outcome, there's risk, and that risk grows with every dollar gold rises.

Clearly much of gold's assent has been discounting those odds, accommodating for an increasing number of insurance policies against a growing backdrop of sovereign debt concerns. To fully understand its ultimate potential, look no further than the US fiscal situation, our entitlements, our hesitant politicians, our fixed special interest strangleholds, and struggling tax base. Consider our debt-to-GDP levels, deficit as a percentage of GDP. The story isn't all that different from Greece, Italy, and Spain. Then, understand that the US dollar has risen sharply, despite these deep-rooted realities, as global investors have essentially "fled the competition." This phenomenon should comfort no one. Ultimately, the bond market vigilantes show up, with good reason.

It should be clear now that if we're witnessing the beginning of phase 3 of a gold move, this significance is more important than having caught the last 300 points or having sold out at 1240 and now finding oneself frustrated. Anything really.

No, to me, a case is building that's far more important than that. There is, most certainly, time to adjust for the future. I'm not saying buy gold right here, right now. I think we at least hit 1210, where I have a bid for a little more, keeping obvious and necessary powder dry for even more on the downside.

However I'll take yet another piece there, consistent with my long standing practice of buying down moves, best I can gauge their eventual depth. Phase 3 considerations are telling me to take a small stab at some more there, despite the horrendous seasonality of buying gold in mid-June. Yes, and this is important, it will serve as another clue as to gold's ultimate intentions, June is seasonally a very bad month for gold, as is May. In the past, gold has rallied almost every July, from a beating of course, and my eyes will be fixed on this June and July.

A final point. The backdrop of US Treasuries is the most important gauge as to gold's risk, and ultimately, its potential. Every dollar gold rises is another dollar it will fall if the piper fails to show up at America's bond market in time. Conversely, every dollar gold rises increases the natural odds that the piper will show up one day. And it should be clear by now, if it happens to America's currency, uncollateralized paper, on a global basis, will need a major readjustment. It is, after all, still an experiment!

Short-Term Considerations:

Buying gold at 1210 (just a little) -- the equity market may be forming a bottom. I've been buying Australian dollars, natural gas, and copper; still think the Dow wants to peg 8800-9250 though, taking sales. Been covering some of the Direxion Daily Financial Bull 3X Shares (FAS) short even though I know it's destined for doom. It was a good one for any of you who followed me on this. Big gains.

Still think silver wants to peg 16.50, but this price is in comparison to phase 1 and phase 2 corrections that plunged it to sub 10. A 16.50 base for the future would most certainly be a prominent step forward for silver bulls, myself included, who have held through the mirk and the muck.

If gold breaks 1200, I'll post something new. But for right now, I'm starting to get it, stronger for longer, and that's why I wasn't surprised in the least by its recent marginal new high and ensuing 40 buck decline. The stronger for longer thesis only works if we can avoid a price parabola. And for an international commodity, it's essential to check the price of gold in all major currencies.

The euro's price scares me, I admit it, though long-term charts seem sufficiently intentional and fair. Any price break in Europe could persist as perhaps the euro strengthens and gold weakens sufficiently to restore balance there. This is the wildcard. But it's also where the heart of sovereign debt defaults is beating the strongest!

Ultimately, the safest strategy, the one I've used, is to have a certain amount of gold and silver that's never traded under any circumstances. One adds on down moves, and takes sales on the extras into strength. During confusing times, one is never empty handed, always carrying a base commensurate with one's risk appetite, personal assessment of the paper money experiment, and desire for insurance.

Right here right now, I think risk and reward are balanced. It's not a time that I'm adding a great deal to my positions (will take some at 1210ish if hit today), but I'm not selling either. As stated before, gold could clearly drop 100 bucks if the euro were to strengthen so keep powder dry. For now, I don't see much more risk than that.

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Position in gold, silver, FAS, copper
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