Monday, December 7, 2009

Amateur Gold Traders Get it Backwards

It's dangerous to trade a market you don't understand. Those who do understand it easily confuse you into doing something stupid.

Gold is a current example. I hear the most ardent (brand new) gold bugs saying stuff that is completely wrong. One of the most obvious blunders has to do with Fed rates. Most first-time gold traders think low interest rates are positive for gold prices. Nothing could be more wrong. From 2002 to 2008, the gold price tripled because interest rates increased six-fold.


Because interest rates are set by the free market, not by the Federal Reserve--let's get real. Climbing interest rates mean one thing: there is increasing demand for capital, and that only happens in an increasingly booming economy. Banks can raise interest rates for one reason and only one reason: people will pay it. ...when demand for bank cash is strong.

What does that have to do with gold prices?

Strong demand for bank cash = lots of bank printing = increasing paper cash supply = high prices for everything, including gold. Inflation. That is why the late 1970's inflationary debacle was accompanied, not by 0% rates, but by 22% interest rates.

I guaranty you that a hike in Fed rates will send amateur gold traders a sell signal. Since gold is currently a pumped band wagon, that's of lot of sellers. In fact, sustained climbing interest rates, a sign of intensifying inflation, are exactly what smart gold traders are attempting to anticipate.

Now, the truth is, any rate hike in the near future (before 2012ish) will be done for political reasons, it'll be counter market direction, and thus will become massively deflationary and laughably unsustainable. Such a foolish act in the face of no borrowing will result in a quick return to 0% interest rates, will intensify our global depression, and will drop prices even farther.

So in reality, this particular rate hike (not to be confused with genuine and sustained rising interest rates) will be bad for gold prices, along with all prices, because it will help bring down the house.

But amateur gold traders will have no idea why or what happened to them. They'll think higher interest rates are what crushed them. So they will miss the real golden opportunity to buy gold after the price has bottomed, when interest rates actually do begin to climb away from 0% in a sustained manner, indicating that there is increasing demand for inflationary bank cash.

Then again, that lesson is probably best passed to our children.


  1. What and who is driving the price of gold? From where I stand it is an irrational fear (or anticipation) of inflation first and foremost. I have seen very few articles that extol the virtues of gold because we are in (or heading in) a deflationary direction. The achievement of critical mass recognition of the existence of the deflationary spiral will send the majority of gold "investors" stampeding out of the precious. As for interest rates rising any time soon I suspect there is a greater chance we will be visited by space aliens first.

  2. Thank you for placing quotes around the term investors. :)

    The answer to your top line question, "what was driving the price of gold," is low volume.

    Transaction volume is more important than price. If all the homes in you neighborhood are for sale, and one home sells a a higher price than last year, that sets the going price. But one transaction doesn't make a market, the other 99% are still for sale. When ALL or most trade, the true market price will be revealed.

    Low volume = the wrong price.

  3. The FED appears to have complete control over the dollar. Today they have talked it back down into it's range from which it briefly broke out higher. That did not last long. At what point do you think the FED loses control over this and dollar strength defies their ability to talk it back down. I am referring to the DXY, which is probably wrong in terms of measuring dollar strength or weakness, but it seems to have the most impact across other markets from a trading stand point. I like the inevitable strong dollar trade, but when do you think that occurs? I know you will say it has been strong for 21 months, but I am looking for some kind of move that someone can actually sink their teeth into, other than falling prices at Men's Warehouse in conjunction with a 70 DXY. Of course the case can still be made the dollar is even stronger then but deflation is yet to really occur on a noticeable scale. Some things are cheaper and some things are more expensive, depending on where you live, etc. I assume that if deflation really rears it's head their will at some point be no denying it.

  4. "At what point do you think the FED loses control over this and dollar strength defies their ability to talk it back down."

    April 2008.

  5. You're probably right FDR, but remember that some of those amateurs hold close to $3 trillion and are BUYING - namely the Indian and Chinese central banks!

    That's why gold will go higher - at least in the short term. When it gets to $1400-1500/oz. get nervous, not before.

  6. I love the low volume = wrong price analysis. One house sale a month sets the price for all and two computers are left trading with each other on Wall Street. Pretty easy to create a price fairy tale these days but all it's gonna take is one cash strapped senior wildebeest to change direction...

  7. GLD and POT running as the DXY crumbles at the feet of GS and Bernanke talking down the dollar. You would think that the market is bigger than GS or the NYFB, but I guess not anymore.

    What make you so sure the April 2008 low in the DXY will hold?

  8. I can remember trying to buy silver eagle coins 16 mos ago with all major dealers saying sorry we're out. Of course now that silver is trading at an all time high they are now available! As for China and India, I think they probably plan to hold their precious metals for a long time.

  9. "What make you so sure the April 2008 low in the DXY will hold?"

    That know one knows the dollar has been strengthening for the past 21 months, thus, our conversation.

    And Ben's assertion, today, that he "saved all financial institutions" from certain failure.

    It doesn't get any better for bears.

  10. FDR- The US came out of the Great Depression long before WWII. I know a lot of anti new dealers believed that " The New Deal" part 1 and 2 actually prolonged the depression, but what do you believe got us out? The economy was rather quickly re-inflated. A lot of the old tricks are not available today, or are they? Obama can't let us drink again we already do, so what will take the edge off of the current fascist movement?

  11. didn't gold go down from 1980 to 2001 in a falling rate environment?

  12. I like your analysis, fdralloveragain.

    Essentially, the trade now has been about the cheap dollar. The trade later will be all about expensive milk.

  13. "Essentially, the trade now has been about the cheap dollar. The trade later will be all about expensive milk."

    Don't dollars price milk? When the dollar gets stronger, all prices fall.

    To reiterate, I'm not talking about exchange rates, which have nothing to do with dollar strength.

  14. "didn't gold go down from 1980 to 2001 in a falling rate environment?"


  15. Having bought my hoard in 2003, all I can say FDR is that it is hard hitting the sell button after coming so far...

  16. but that falling rate environment from 1980 to 2001 was characterized by more liquidity (expanding debt), not less, right?

    your approach to interest rates seems right to me: money is just like any other good. higher demand = higher prices everything else being equal. but when there's lower demand, you can cut prices to maintain volume (entice shoppers). it seems like that's what happened from 1980 to 2001 -- decreasing interest rates AND at the same time more debt.

    now that they're at zero, it seems like there's no more price drops possible to entice shoppers.

  17. FDR, you said Ben's talking down the dollar is a great scenario for the bears, or something like that.

    It seems like the Fed is in control here. The Fed dictates market direction. The Fed dictates dollar strenght. The Fed dictates Congress even. I know we should be deflationary, but the corrupt Fed (and they are corrupt for you Fed fans out there) seems to have their way with market manipulation. Do you think we'll have to have the Fed abolished before free markets can work again? It seems to me that fundamentals don't stand a chance when the Fed can buy up bad assets and half of the treasury auctions at will.

  18. ..

    This is one of the best moments in history to buy.

    I have logic, I have truth, I have the facts, all on my side. All I ask of you now is that you turn your back on the hysterics and follow my rationale closely.

    Top 5 Reasons:

    This must be the most joyless bull market of any market in our lifetimes. Investors are more than worried. They are morose. Deer in headlights show more activity. Short interest is SKY HIGH.

    The G20 bankers have promised, PROMISED low interest rates for as far as the eye can see. And more stimulus money. There is NOTHING TO FEAR from this quarter and everything to rejoice over. No IDs will be checked. New punch bowls will be supplied. Party on…somebody?

    Covering short positions will provide jet fuel for the next 12 months of a market rise. Stock buybacks add yet more fuel to that fire. Money’s so cheap, why not borrow to take your own stock off the market. Cisco just did that—to the tune of $5 billion.

    Take a stock like IBM, flat for the past decade. But between 1996 and 1999, it shot up SIXFOLD. The fundamentals are now in place for IBM to do exactly the same again—between today and 2012. Same for Wal-Mart. Same for American Express. Same for Pfizer. Yes, same for General Electric. Well, OK, that’s a stretch.
    Stocks are not GDP futures. Stock prices are about supply and demand. This fact is lost on TV economists. Supply has been fiercely contracting as buyback programs kick in, and supply, well, you know all about this Lake Powell of liquidity. And day by day, the Hoover Dam of Doubt weakens, creaks and strains. Watch out when it finally blows!

  19. "Money’s so cheap, why not borrow to take your own stock off the market."

    I would ask that question to the $ trillions piling into 0% T-Bills every month or two.

    The S&P 500 has P/E of 150. It would be historically overvalued at 1/10th its current price.

  20. I said that Ben's quivering, nervous, stammering press conference comment earlier today, that he "saved every financial institution from certain collapse" is the dream scenario for bears. Never has a more clueless statement left a man's lips.

  21. "Anonymous said,
    This is one of the best moments in history to buy.."
    My father is about 60 years old. He lost his job about 2 years ago. Since then he has been working on/off as temp at different places. Since he has not had steady income he could no longer make his house payments.

    My brother lost his job 3 weeks ago. My aunt also around 62 years old lost her job a year ago. One of my cousins just got a layoff notice. I personally spent 8months unemployed/underemployed. We all have college degrees, good presentation etc.

    I don't think this is the time to buy. Unemployment in my immediate family is about 30% and among my friends around 20%.
    I think you must be a republican who is completely disconnected from reality.

  22. "This must be the most joyless bull market of any market in our lifetimes."

    Except for the huge, quick bull markets of the 30s, that is, though nobody remembers how those felt.


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