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GLD: The Hurdles Still Remain

Summary We continue to have several things working against the gold sector at the moment. I have been selling more over the last week as this rally looked to be petering out somewhat, but I still have positions established in several gold and silver companies. If gold goes under $1,000 per ounce, then it will probably be the last time you will be able to buy it at that price ever again. The bearish hurdles that I talked about a few weeks ago in my last article on the SPDR Gold Trust ETF (NYSEARCA: GLD ) are still in place. In fact, they have become even larger since that time. We continue to have several things working against the sector at the moment. Those include the divergence between GLD and the gold stocks (HUI and XAU), the long-term downtrend that is still in place, tax loss selling into the year-end, and possible interest rate hikes at the December Fed meeting. The gold sector needs to overcome these before you can even start to talk about a new bull market. The latest sell-off in the precious metal sector began in early June, and since that time GLD has almost gotten back to even while the HUI is still showing a sizable loss. There have been many instances in the past when you suddenly get big divergences that occur in terms of where GLD/gold is priced at in relation to where the gold stocks are trading, and they usually don’t last long. At one point this month, the HUI was down about 35% while GLD was only down about 2.5%. That performance gap was extreme and it simply wasn’t going to be able to continue. Since that time, the HUI has outperformed, but it’s still lagging the price of gold by a fairly large margin. One of them is right though, and one of them is wrong. Either GLD reverses hard over the short-term, or the HUI makes some substantial gains during that time. ^HUI data by YCharts Given the price action in the HUI since the Fed meeting, one could argue that it’s the gold stocks that are correct. But it’s too soon to determine if this rally since the August lows is just a bear market bounce. Technically, the gold stocks appear to be breaking down, but I don’t like to rely on events that happen immediately after a Fed meeting, as the initial move isn’t always the correct one. Without question though, the long-term trend is still down. If the HUI can’t make a charge higher over the next several weeks, then investors will most likely start taking some tax losses in these gold stocks (if they haven’t already), as many have dropped substantially since the beginning of 2015. This will further fan the flames and we could get some major declines into the end of the year. I showed the YTD percentage loss for the following stocks in my previous article. Over the last few weeks, they have decreased even more, and the chart below reflects their current losses year to date. GG data by YCharts We also have the Fed and interest rates weighing on the gold market. Last time, I talked about how the Fed has been consistent with its message since 2012, in that the majority of members have been signaling for the last three years that they believe 2015 is when the first rate hike will occur. My argument remains that the Fed is going to lose credibility if it doesn’t raise rates this year. The weak jobs data in September had everybody believing that the Fed was on hold for the rest of 2015 and maybe well into 2016. As I said in my last update: I believe that rate hikes are still on the table, and this should be clear at the conclusion of the next Fed meeting in a few weeks. If this occurs, then gold could come under pressure again. Given the following statement out of the Federal Reserve, a 25 basis point increase at the December meeting is still a high probability event: In determining whether it will be appropriate to raise the target range at its next meeting, the Committee will assess progress–both realized and expected–toward its objectives of maximum employment and 2 percent inflation. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments. Translation: baring a major decline in the U.S. and global stock markets between now and the end of the year, and assuming economic data doesn’t collapse, the Fed is most likely going to raise rates at the December meeting. GLD and the HUI could remain under pressure over the remainder of 2015, but I continue to believe this will be a “sell the rumor, buy the news” event, and gold will finally bottom soon after the first rate hike. It might not happen right away though, as there could be a slight lag. Contrary to popular belief, gold doesn’t perform poorly when rates increase. The last time the Fed embarked on a rate hike program was in 2004-2006, as the Fed Funds rate went from 1.00% to 5.25%. Gold went from just under $400 to… well, take your pick on which date and price you want to use. Clearly there was a huge bull market in gold occurring at the time. (SOURCE: FRED ) If you go back the the 1970’s, it was the same situation. And notice in both charts how gold increases immediately (or almost immediately) with the Fed Funds rate. In the chart above, gold was up about 20% in the 4-6 months that followed the first rate increase. (SOURCE: FRED ) There is one additional hurdle that the gold sector is facing at the moment, and that is the recent strength in the U.S. stock market. Anybody that has read my previous articles on GLD knows that I’m bearish on the U.S. indices. While I don’t expect a major collapse to occur, I do believe we could see a multi-year bear market with a 25-35% decline, or at best a sideways trading pattern. Stocks need to digest the massive gains that have been racked up since 2011. In other words, it’s time for a breather. But November and December are always strong months for stocks, and it seems like they are trying to have one last hurrah before finally giving way. You can see how GLD and the S&P have been trading inverse to one another over the last few weeks. Should the stock market continue to hold up, then gold wouldn’t have that firm bid underneath it as money would still be chasing these highflyers. Only when we see the S&P roll over we will see gold start to take flight. ^SPX data by YCharts My Updated Plan Of Action On October 16, in the comments section in my previous article on GLD, I told readers that I had started booking some profits in a few precious metal stocks. The reasoning was many of these were hitting their 200 day moving averages, so I thought it might be prudent to lighten up a bit. I have been holding many of these stocks since the August lows, as that is when I jumped back in. Some positions were established on the morning of October 2, as GLD had a huge move to the upside. I thought it might be wise to take some gains and see what happened over the next few weeks. My plan was to buy these positions back only if a breakout was confirmed. (Source: StockCharts.com) I have been selling more over the last week as this rally looked to be petering out somewhat, but I still have positions established in several gold and silver companies. I’m just going to hold these and see what develops. I have no desire to buy anything at the moment given the recent weakness, I would need to see some positive price action in the HUI first. Right now 104 and 130 are the two levels I’m paying attention to. Below 104 and it’s time to get very bearish, above 130 and the rally could go further and possibly develop into a bull market. As long as the HUI remains in the middle of those, then I’m just going take a wait and see approach. My Strategy With Timing This Gold Bottom I want to talk a little more about my strategy when it comes to the gold market and why I was buying in early August, even though I still believed there was more downside over the next several months. To me, this all comes down to the math and probabilities, and buying at that time was a win-win scenario. I had two options: wait for a final capitulation and preserve 100% of my capital, or start to buy in and run the risk of losing some money. This is not about the amount invested, it’s about the percentages invested. The HUI peaked at 630 in 2011, in early August it was just above 100, or an 84% decline from peak to then-current trough. I know that the HUI isn’t going to zero, as no index has ever been wiped out completely. So the question is what could be left on the downside from the roughly 100 level. The Dow declined 90% during the Great Depression, a similar decrease in the HUI would take it to 63. That price target seemed to be a very real possibility. That would most likely result in a 50% haircut in the major gold stocks that make up the index. My thought process was to buy in 20% at the August lows, and see what transpired from that point. If I lost 50% on that capital invested as the HUI went to 63, but still had 80% cash on the sidelines, then I would gladly take that. For two reasons. One, being able to buy 80% in at 63 would be an incredible opportunity for some serious long-term gains. But even if the index declined further after I bought – to say 40 to 50 – didn’t matter so much. I know that the absolute lows during capitulation events don’t hold for long, and those losses that occur at the tail end are made up in just a matter of months. It only took a few months for the Dow to double off of the bottom, and a year later it had tripled from the lows. So if the HUI plummeted to 63 or lower, it would increase back to 100 in short order. I would also quickly gain back that money lost on the initial capital outlay in that scenario. Conversely, using 20% of my allotted capital to purchase gold and silver stocks at the August lows protected me from getting behind the eight-ball, if that turned out to be the absolute bottom. I’m always trying to stay ahead of the curve. And when I get ahead I want to keep pushing that envelope and increase my distance even further. Not taking advantage of this opportunity given would have been risking losing that positioning. Plus, if the bottom was established at that point, it would have meant I would have started to buy at the absolute lows. Worse case it would be a good trade as it was clear that these stocks were turning up in the short-term. So either scenario had a very positive outcome, which is why it was a win-win type of event. Let me be clear, this is only applicable to the current price environment of the gold stock sector or when trying to time the bottom of a sector that has already experienced a massive decline. The Last Time Gold Will Trade Under $1,000? Nothing really bullish has occurred yet in the gold sector. And with all of these hurdles that it faces between now and the end of the year, it opens the door for further downside. My ultimate target since the Fall of 2014 has been 90-100 in GLD, or roughly $950-$1,000 in gold. I still believe that if there is one more decline, that it’s most likely going closer to the 90/$950 target. If that occurs, then it will probably be the last time you will be able to buy gold under $1,000 per ounce ever again. Prices of all assets continually rise over time as the money supply increases. The fair value of gold is around $1,400 an ounce (my estimate given the growth in the money supply and just looking at the current cash cost environment). That’s not going to decrease as time progresses, it’s only going to increase as the consistent trajectory of M2 is higher, not lower. Gold is no different from other goods that are produced. It costs money to extract gold from the ground, and as the money supply increases, then so do those costs. Where those costs are at gives us a good idea of where gold should be trading. But all assets can trade well above or below fair value for a given period of time. Eventually though, the rubber band gets stretched too much (in either direction) and you get a reversion to the mean or an overshoot. Gold below $1,000 would be a stretch already at current money supply levels and growth rates. In 10-20 years, it would be impossible to have gold under $1,000, given the amount of inflation that would be introduced to the system during that time. Just like today it would be impossible to have gold under $300, which is where it was at 15 years ago. So if the price does get to under $1,000, enjoy it will it last, because it will most likely be the final time gold ever trades in the three digits. That just shows you how much upside potential this sector has.

GLD: And So It Begins

Summary I would imagine that early next week we will see some bargain hunting in the gold shares and the precious metal, as they are very oversold right now. With GLD in freefall, of course we have a plethora of negative news stories on gold hitting the wires. My forecast remains that we are in the topping process for the general market, and gold will be bottoming during all of this. Debasement risk is still very much present, it’s just not at the forefront of the conversation because interest rates are currently low. When prices of assets reach certain levels, the smart money always starts buying. Over the last 6-7 trading days, the SPDR Gold Trust ETF (NYSEARCA: GLD ) has plunged to the 105 region, which means capitulation has begun. As I keep reiterating, and have been for many months now, when GLD hits 90-100, that’s when I will be buying. But I’m not looking to jump into GLD, rather I’m going to be purchasing the beaten down gold (and silver) stocks. I’m simply using GLD as a price guide for when to start getting in. (Source: StockCharts.com) It’s been a rough week for the gold bulls, but I believe we are only 1/3 (maybe 1/2) of the way through this capitulation event. We still could have a ways to go before the bottom. However, this move has been very aggressive, particularly in the gold stock indexes such as the HUI. As I said earlier in the week in the comment section of my last article : I have been following the gold stock sector for over 12 years now, and that was one of the ugliest days in the HUI I can recall in a long-time. You have to go back to 2008 financial crisis to see that kind of percent loss in one day. At this rate, the HUI will reach 70 in a 1-2 weeks. Given I was expecting the bottom to take 2-4 months, this seems too much too soon. Might have a little follow through tomorrow but I think there is a good chance the HUI rebounds back above 120 by the end of the week. I’m not forecasting any major bounces (could reach 130 but not much more). Rather I think we see some consolidation for a few weeks before the next drop. We shall see. It’s hard to call short term moves like this. Either way, stay on the sidelines. It’s way to volatile now, just wait for the bottom. The HUI wasn’t able to rebound back above 120 today (Friday), but it along with GLD did make an intraday reversal. I would imagine that early next week we will see some bargain hunting in the gold shares and the precious metal. We are way oversold in both and need to consolidate a little here before we go down again. I still don’t expect any major rebounds. This is capitulation, you just normally don’t see strong moves to the upside when you are in the middle of it like we are now. I would be very surprised if GLD went back up to the 110 level. Rather, I believe we will see a modest bounce in the ETF and the HUI. A 2-3 week period of consolidation would be perfectly normal (and expected). I will say that during this period, several gold stocks could pop 10-20%. If that doesn’t occur, and GLD and the HUI continue to plunge, then my 2-4 month forecast before we hit the final bottom will be a little off. It simply might happen in a shorter period of time. But the time-frame isn’t important, all that matters is the price level. When GLD gets in that 90-100 region, and the gold stocks are dead and buried, I will be buying. It doesn’t matter if that is 1 month from now or 4 months. But I don’t have a crystal ball (it sure would make things easy if I did). If I’m wrong, and GLD and the gold stocks have officially bottomed, then I will have to re-evaluate. I have been mostly on the sidelines for several months, and at this point I plan to remain there until we either go down to my buy in target or we break above key levels. If I see GLD get above resistance – and show a major reversal – then I will start buying gold stocks. I have been telling readers since last November that I always use key levels to determine whether to buy in/sell out. I don’t want to be in gold stocks if major support levels in GLD are broken to the downside, and I don’t want to be on the sidelines if GLD breaks above major resistance. I must admit, given the recent sell-off in the gold and silver stocks, that little voice in the back of my head says “don’t get too greedy, things are already extremely cheap.” For now though, GLD and the gold stocks are showing no strength, and until that changes, I will remain in cash. The Most Accurate Gold Forecaster During 2013 Predicts $800 Gold With GLD in freefall, of course, we have a plethora of negative news stories on gold hitting the wires. Anybody who has been extremely bearish on the precious metal is getting a lot of press. Georgette Boele is Coordinator of Currency and Precious Metals Strategy at ABN AMRO Group Economics. She was named the “most accurate forecaster of the gold price during 2013 by Metal Bulletin Apex, which aggregates and analyses the accuracy of metals prices forecasts and research produced by banks and other industry participants.” Earlier this week, she put out her latest publication on the precious metals market, and this is what she had to say: Moreover, the adjustment in expectations that the Fed will start hiking this year have made precious metals that yield zero to almost nothing very unattractive … Investors will likely liquidate gold positions when US dollar and US rates go up in an environment where inflation expectations remain muted and investor sentiment is constructive. Moreover, as gold has a relatively low share of industrial demand, this will unlikely come to the rescue when industrial demand picks up. Although, we expect Chinese gold demand, especially jewellery demand, to improve, this should not be able to offset the negative trend in gold. A few days before that publication came out, here were Ms. Boele’s price targets for gold (as of July 20th). She’s was expecting $1,000 by the end of 2015, and $800 by the end of 2016. Those price targets haven’t changed in her latest update, but can you spot the odd forecast below? An increasing silver price as gold crashes? In fairness, she did just slightly lower her year-end target (2016) for silver to $17, but still. Gold and silver follow each other, so I just don’t see these two trading inverse with one another over the next year or so. Especially not because of increased industrial demand for silver. (Source: ABN AMRO) Take a look at her forecast in 2013 for silver and you will see what I’m talking about. Even back then, she was predicting a rising silver price but a plunging gold price. That turned out to be inaccurate, and I would have disagreed with her back then for the same reason (had I read that report at the time). (Source: ABN AMRO) I’m not trying to take anything away from her calls, we must give her credit. Even though her price target for gold during 2014-2015 was off, she has been correct in the direction. That’s better than most other gold analysts, who seemed to be bullish on average over the last several years. I’m just trying to point out some weaknesses I see in this gold and silver price forecast and why I disagree with it. If you take a look at the historical price relationship between gold and silver on the monthly chart below, we haven’t really seen silver trade inverse to gold during any major spikes upward or downward. They track each other pretty consistently. For Ms. Boele to be correct, this historical correlation is going to have to be broken. I just don’t see this occurring. Gold Price in US Dollars data by YCharts As for her reasoning for lower gold prices ahead – due to a rising U.S. Dollar and increasing interest rates – well, I disagree with that too. I have talked enough in past articles how over the long term, the U.S. Dollar’s direction has no influence on the price of gold. It makes zero sense (economically and fundamentally) for there to be a long-term correlation. Hypothetical scenario – If Monday morning the Fed announced that it printed $10 trillion in fiat currency this weekend, and the ECB and other major central banks announced that they each printed $100 trillion of their own currencies, the USD would soar as other global central banks debased much more aggressively than the Fed. Gold wouldn’t decline in that scenario, it would rocket higher as well. The USD is just an index that shows where the Dollar is trading against other global fiat currencies. The USD will not be going down in this above-described scenario, but the value of the U.S. Dollar certainly will. They are two separate things. That’s what people get confused about. Gold measures the purchasing power of the U.S. Dollar, not where the U.S. Dollar is trading in relation to other fiat currencies. This is why over the long term, there is no correlation between the USD and gold. It’s why the USD was at 97 in 1978 and the gold price was at $200, and today the USD is at 97 and the gold price is at $1,100. This is a race to the bottom in the global currency game as each nation tries to inflate away their debt. There isn’t going to be a winner in all of this. If the U.S. Dollar goes up, it just means it’s the best of the worst. Gold is going to increase in value no matter what level the USD trades at. As for the Fed raising rates – and this hurting the price of gold – a picture says a thousand words. Gold soared along with interest rates in the 1970s. Gold has plunged as rates have been at zero percent over the last few years. History shows that an increasing interest rate environment is not negative for gold. Quite the opposite in fact. The reason for this is the Fed is always behind the curve when it comes to increasing rates as the Personal Consumption Expenditure (PCE) price index and Consumer Price Index (CPI) move up. (Source: FRED ) Ms. Boele did talk about rising interest rates ” in an environment where inflation expectations remain muted.” I can see her argument here, but while I do believe the Fed will start to raise rates initially, it will stop well short of its inflation target levels if its preferred inflation gauge doesn’t budge. In other words, I expect the Fed to continue to remain behind the curve and not attempt to get in front of it. I do believe that the gains in stocks and investors confidence in the market is what is holding gold back. As I have discussed in past articles that I have written over the last several months, gold’s biggest competition is the stock market. If I felt that the major indices would continue to increase over the coming years, then I could see a reason to stay bearish on gold. But my forecast remains that we are in the topping process for the general market, and gold will be bottoming during all of this. The way I see this playing out is investors start realizing that the stock market just isn’t going to be returning much this year. Most have become a little complacent and expected the strong annual gains we have seen since 2012 to continue. Now a lot of them are getting a little agitated/frustrated. These investors want high beta. And with the Fed about to raise rates, we will start to see some heavy liquidation take place as more people come to the realization that the party might be over. Given gold has been in decline during the markets rise, it’s the most logical asset class that all of this cash (that will be taken out of the market) will flow to. Especially when you consider the metal is at a much lower price level than it was in 2011, not to mention, it’s also highly volatile. And Here Comes Goldman Sachs… What would a gold smash party be without the presence of Goldman Sachs? Jeffrey Currie, head of commodities research at the firm, has been on the right side of this trade for a while now. He turned bearish in early 2013, issuing a sell call on gold in April of that year. A few days later, the price was down 13%, dropping from $1,550 to $1,350. Currie has continued his bearish stance since that time, coming out occasionally with lower and lower calls. Now he is saying gold under $1,000 is in the cards: We think we are in a structural bear market, not only in gold, but across the commodity complex, as the individual commodity stories are reinforcing to one another, creating a negative feedback loop…With the more positive outlook on the dollar, and with debasement risk starting to fade, the demand to use gold as a diversifying asset against the U.S. dollar becomes less and less important. Let me just say this, debasement risk hasn’t started to fade. As I touched upon in my previous article on GLD, if U.S. interest rates normalize, then net interest payments on the debt will balloon from $200 billion to $800 billion. We will be running $1 trillion annual deficits in the future if rates increase. The debt is just going to keep piling up. So debasement risk is still very much present, it’s just not at the forefront of the conversation because interest rates are currently low. Just because the “you know what” hasn’t hit the fan, doesn’t mean it’s not going to. Fantasy Not Reality I expect bearish forecasts to become even more bearish as GLD/gold move lower. That’s basic human nature. The more an asset goes down in value, the more fearful investors become, and the more outrageous the bearish calls get. Right now, we are seeing a lot of forecasts for gold to move under $1,000 (from yours truly as well). If we get a small bounce as I talked about earlier, then these might dissipate a little. But should gold eventually decline below that key level, then the bears will be out in full force, as will their outrageously low new price targets. $500 gold? Heck, why not $100? But these levels for gold are just fantasy, not reality. They are simply a result of people getting hyped up and too emotional when it comes to forecasting where prices will bottom. I would love for gold to go down to $300-$500. I would also love a Ferrari 250 GTO to go down in price from $30 million to $5 million. But I know those two things are not going to happen. There is “smart money” and then there is “dumb money.” And when prices of assets reach certain levels, the smart money always starts buying. This is all governed by the laws of supply and demand, as the smart money knows that when supply/demand fundamentals get all out of kilter, it’s time to buy. The only way we see those levels in gold being hit is if we had outright deflation. I’m not talking disinflation, I’m talking 1930’s style money destruction. Since we haven’t had deflation here in the U.S. since the Great Depression, and the U.S. Dollar isn’t backed by gold, I don’t believe that deflation is in our future; not with the debt levels we have here in the U.S., and certainly not when the Fed can easily inflate part of this debt away by just a few keystrokes. In Summary Capitulation in GLD has begun, the gold stocks were signaling this event for a few weeks now. The move lower in both GLD and the HUI over the last 6-7 trading days has been very aggressive. A little “too much too soon” if you ask me. We had an intraday reversal on Friday, so I’m expecting to possibly see some follow-through buying next week. GLD and gold stocks need to consolidate a bit here before they drop again. We are probably about 1/3 (maybe 1/2) of the way through this final sell-off of the bear market and the absolute bottom. Things might bounce slightly in the short term, but I see more downside ahead. If we don’t consolidate and just keep moving lower, then the bottom could be reached a little quicker than I’m anticipating. Long term, GLD and gold stocks are still the place to be positioned. With the market topping out, this gives gold the time it needs to form a final bear market low. And with the Fed raising rates soon, which will cause U.S. deficits to balloon again, investors need to own gold assets as USD currency debasement will soon become the main topic of concern again. The more gold sells off, the more bearish the price forecasts become. But the smart money will be buying when supply/demand fundamentals get out of kilter. That doesn’t occur at $500 gold either, it’s much higher. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.