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business newsHow Gold Regains Its Luster
While gold was due for a correction, analysts see further upside potential for stocks in the metal.
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The yellow metal has lost some shine.
Gold hit a fresh high above $1,400-an-ounce on November 9 but has since suffered a setback, slipping toward $1,300. On Wednesday, the metal closed at $1,336. Still, despite the drop, gold is still up 23% this year, as investors have continued to fret about falling currencies and the potential inflationary impact of the Federal Reserve’s monetary experimentation.
Tom Pawlicki of MF Global offers a couple reasons to explain downside pressure on the barbarous relic’s price: first, the dollar has strengthened. The greenback had sold off as the Fed suggested another round of money printing (aka QE2), but now the buck has bounced back due to concerns over the health of Irish sovereign debt.
In other words, as economist Dr. Gary Shilling recently told Minyanville in a Q & A, investors might have reasoned that while the US isn’t really doing anything right, we’re increasingly looking like the one-eyed man walking through the valley of the blind. The PowerShares DB US Dollar Index Bullish Fund (UUP), which tracks the buck, is up 2.5% in the past 5 days.
Near-term pressure is also coming from the end of the Indian festival season say analysts. Specifically, November 5 marked the beginning of the Diwali festival. The five day “Festival of Lights” is a Hindu holiday where activities include spending time with families and exchanging gifts. The latter is a big driver of gold demand, notes Frank Holmes of US Global Investors. Interestingly, says Holmes, while Indians have traditionally been very sensitive to fluctuating gold prices, it appears they are adjusting to the concept of higher prices.
Melek, who forecasts an average gold price in 2011 of $1,350, says that gold could resume its upward march once attention refocuses on the Fed’s efforts to stimulate the economy with its bond-buying program. Several Fed members have now added their names to the growing list in support of QE2. Charles Evans of the Chicago Fed even said that QE2 could grow beyond $600 billion if needed, as monetary easing should be used until inflation advances to 2%.
As Minyanville detailed in a recent article -- QE2’s Days Could Be Numbered -- some investment strategists have started to question whether the program could be scaled back due to better-than-expected economic data, global backlash from foreign policymakers, or dissidents on the FOMC. However, Lance Lewis, President of Lewis Capital and a Registered Investment Adviser in Dallas, doesn’t buy it.
“These are the same people who told us last year that the Fed would exit because everything was so great,” Lewis says. "Quantitative easing is not going to make the economy better. All it’s going to do is give us inflation.”
Lewis says that, looking ahead, he’s looking for gold stocks to outperform the metal. In fact, he says, the outperformance of the shares over the metal has even become more pronounced during this correction. Gold stocks continue to exhibit outperformance characteristics almost exactly like they did in December of 2005 when they also broke out of a multiyear trading range, just like the one that the Market Vectors Gold Miners ETF (GDX) broke out of earlier this month.
The adviser provides the following chart of gold vs. the GDM index:
Click to enlarge
Thus, Lewis emphasizes, that action is highly suggestive that the next leg up will see the equities continue to outperform the metal, and if it’s anything like the December of 2005 rally then the GDX will hit a new all-time high long before the metal does too.
Year-to-date, the GDX -- which includes holdings like Barrick Gold (ABX), Newmont Mining (NEM), AngloGold Ashanti (AU), and Gold Fields (GFI) -- is up 28%.
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