Scary Developments In Gold

Scary developments in gold

Gold has broken above $1020 (again during Hong Kong hours). I have been expecting this all year, and now that gold is finally hitting new highs it is fairly scary. With the $1000 barrier broken, there is no telling where or when it will stop.

What makes gold rising over $1020 even scarier is what is happening simultaneously with open interest on the COMEX. In the table below, you can see how the quantity of COMEX gold futures contracts has begun spiraling out of control since the end of August.

Open interest on gold futures is EXPLODING, yet gold prices have broken over $1000 and are still going up! We are definitely nearing the beginning of the real financial crisis. I expect gold to continue inching up until the dollar’s fall start accelerating towards the end of the year.

Below is a chart of gold open interest this year. Notice the abnormality?

Moneyweek reports about the gold bug's new best friend - the Chinese government.

(emphasis mine) [my comment]

The gold bug's new best friend - the Chinese government
By Dominic Frisby Sep 11, 2009

Wen Jiabao: pushing citizens to buy gold

There have been a number of extremely exciting developments in the world of gold and silver this week, not least the price. Gold is once again flirting with $1,000 an ounce. [is over $1020]

As you might have noticed, I like to look at the markets from a technical point of view. I stare at charts, I note moving averages, momentum indicators, trend lines and goodness knows what else. $1,000 is a key level for gold. A lot of us have been waiting a long time for $1,000 gold.

But what has me really excited at the moment is not in fact the price, as you might expect. It's the news...

Hong Kong is taking delivery of its gold

The tremors in the gold market began last week when Hong Kong announced it was pulling all its physical gold holdings from depositories in the UK and moving them home to newly-built vaults near the city's airport. We've said it before: wealth is moving east. Yes, Hong Kong has ambitions to be the bullion trading hub of the Orient, but there could be more to it than that.

It's estimated that they own some $63m worth of gold. In the international scheme of things, that isn't much. There might even be a banker somewhere who takes that home this year as his bonus. What is noteworthy is that Hong Kong is taking delivery of its metal.

Many gold followers have argued that if everyone who owned futures, exchange traded funds, warrants, options, CFDs - and any other gold derivative you care to mention - decided to take delivery of the gold against which their contract is written, there wouldn't be enough physical metal to go around, and the price would rocket.

Indeed, it was the French government's insistence in the late '60s and early '70s on taking delivery of the metal in lieu of US dollars that eventually forced the US off the gold standard in 1971. The US didn't have the physical metal to back the quantity of dollars it had put out. Gold quickly went up tenfold. Perhaps Hong Kong is taking delivery while it still can.

Just a few days later, Barrick, the world's largest gold producer, announced plans to eliminate its gold hedges. (Hedging is when a miner sells its metal before it has actually been mined in order to lock in a price. This can work well in a falling market, as you have sold your metal for a higher price than it is when you actually mine it; but it can be a disaster in a rising market because you miss out on the higher prices). Barrick's hedging strategy has rightly attracted a great deal of criticism. The company failed to recognise a bull market and sold its gold too cheap.

…
So costly has been Barrick's hedging strategy, a contrarian might argue that their now eliminating their hedges could mark the top of the market.

But what's interesting is that, rather than deliver the gold it has sold forward, Barrick has chosen to raise cash by issuing shares and using the money – some $3.5bn – to pay off its obligations. In other words, the largest gold miner in the world thinks that it's worth buying its way out of the hedges with cash now, because it'll get a better price for its gold in the future.

Why the Chinese government is telling its people to buy gold

Meanwhile, we hear that China has doubled its reserves to 1,054 tonnes. They are buying gold, "carefully so as not to stimulate the market" says Chinese economic ambassador Cheng Siwei, reports Ambrose Evans-Pritchard in The Telegraph. Siwei continues: "Credit in China is too loose. We have a bubble in the housing market and in stocks so we have to be very careful, because this could fall down."

Is the risk that "this could fall down" the reason that the Chinese authorities are pushing their citizens so hard to buy gold – so that they have some protection from any credit bubble collapse? Analyst Paul Mylchreest notes in his Thunder Road Report that the main state-owned television company is promoting gold and silver as an investment. The government is telling its people to buy gold. What's more, every bank will sell gold and silver bullion bars in four different sizes to individuals, and China's largest bank, the ICBC, is setting up a precious metals department to handle growing investor demand.

Where is all this gold going to come from? Well, if 1.3 billion people start buying one-ounce coins, heaven only knows. China is already the biggest gold producer, last year superseding South Africa. Pretty soon it will replace India as the largest consumer.

And if the Chinese authorities are pushing gold as an investment to their citizens, it obliges them to 'protect' the gold price, as Lawrence Williams of Mineweb notes. It would be tantamount to a betrayal if it fell, never mind the loss of all-important face that would result. Just as the US and the UK stepped in to bail out its banks, so China will be duty bound to prop up gold.

But the surprising strength we have seen in gold over the summer – we never really got the summer low I was looking for – suggests that somebody is already 'buying the dips' anyway. Indeed, the gold price has this week repeatedly gone through $1,000 during overnight trading, only to fall back when the US markets open. That indicates that the buyers are out east somewhere. I have written about this before [me too]: Gold is shifting from West to East – along with the balance of power. [See *****Graphs Showing The Manipulation Of Gold*****]

$1,000 an ounce is just the start

There are some who argue convincingly that the $1,000 will mark a double top in gold, and then we'll go down from here. There are other technical indicators that suggest a top.

But there is too much impetus to force the price higher. We may hover around here for a while - in spring 2008, oil spent almost six weeks bouncing between $95 and $100 before bursting through – and $100 oil is like $1,000 gold. Indeed, there is a little bit too much bullishness about the place at the moment, so a pullback would be healthy. But once we have a break above $1,000 and a weekly close above the old high at $1,032, the news on gold will be splashed everywhere. It all points to much higher prices in time.

The Business Mirror reports about the gold/dollar tsunami.

The gold/dollar tsunami
Written by Outside the Box / John Mangun
Thursday, 17 September 2009 00:16


Undoubtedly you have seen some of the personal videos of the tsunami that hit Thailand and Indonesia in 2004.

A normal day on the beach with the waves gently slapping the shoreline, moving back and forth as the ocean always does. For some strange reason though, the next wave does not come up to shore and the water is seemingly being pulled back into the ocean. Then, without warning, the next wave rushing toward the shore keeps growing larger and higher until the people realize that this is not normal by any standard and begin to run for their lives.

For the last few months, events have been coming together, not unlike what transpires in the hours leading up to the last few minutes prior to the unleashing of one of the most destructive forces of nature, the tsunami. The tsunami is created by a massive release of energy, unseen and unnoticed hundreds of miles away.

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The visible sign of this tsunami has been growing steadily all year. The US dollar index is a measure of the value of a dollar against a basket of currencies. In July 2008, at the height of oil prices, the index was 72. When oil fell as demand could not justify the price, the dollar rose to 89. Theoretically, the price of the dollar and the price of oil should move inversely, high dollar, low oil.

In March 2009 oil traded at $70 and the dollar index traded at 87. Oil is still the same price, but the dollar has fallen to 76. Oil should have increased in price, but demand, due to the global economic recession, has kept oil prices flat.

The dollar index at 76 is not even a recent low. In 2008 the low was 71. But the trend of the dollar is so poor and the fundamentals that will devalue the dollar are so strong, that dollar-holding nations and individuals are slowly but unquestionably looking for a wealth storage alternative. Gold quietly closed last week at the highest price in history.

Many people have lost fortunes underestimating the resiliency and power of the US economy. But as I have said before, this is not the same US economy of even a decade ago. Its debt bubble has exploded, perhaps never to reinflate. Its government financial structure is worst than most Third World countries. Its manufacturing capabilities that made it the only true superpower for a century have vanished. There is almost nothing left that can bring that economy quickly back to its former state.

The last “rich man” on the planet, China, is moving its wealth to the traditional storehouse of wealth, gold.

From Money Week: “Hong Kong announced it was pulling all its physical gold holdings from depositories in the UK and moving them home to newly built vaults near the city’s airport. It’s estimated that they own some $63 million worth of gold. That isn’t much. What is noteworthy is that Hong Kong is taking delivery of its metal”.

It has been more than 40 years since governments and individuals were concerned about physically holding gold [In 1968, the world saw the largest gold rush in history. Story below]. And today, the largest producer of gold in the world, as well as the largest foreign holder of physical dollars, wants its gold within arms reach.

The price of gold is virtually unstoppable as it moves to $1,110 and then to $1,250 as the dollar index moves first to 72 and then to 67.

As this happens over the next months and quarters, hard asset prices will continue to increase, including that of commodities, metals and stocks, perhaps especially stocks. And the true “risk aversion,” the new motto of financial journalists, will be against cash.

Major currency interest rates will remain near zero and dollar-denominated inflation will push the prices of almost anything you can store, keep in a vault, or use as a raw material, even in the future, more and more valuable.

To conclude this entry, I want to look back on an entry I made on February 23 this year, *****Preview of 2009's Gold Rush And Dollar Panic*****.

Speculative Stampede
Friday, Mar. 22, 1968

Quietly and secretly, technicians at Fort Knox, Ky., loaded an estimated $450 million worth of gold ingots [about 410 tons of gold] onto a heavily armed convoy. The convoy proceeded to a nearby U.S. Air Force base, where the gold was loaded aboard a transport plane and flown to Britain.

There, it was sent to the Bank of England, to be transported by Swissair and British European Airways flights to the coffers of Swiss banks. The influx of gold became so bulging, in fact, that one Swiss bank had to reinforce the walls of its vault to contain it [Swiss banks are running out of storage room again this year]. It was all part of the largest gold rush in history, a frenetic, speculative stampede that last week threatened the Western world with its greatest financial crisis since the Depression.

Socks & Mattresses. Telephone and telex lines to London, the world's largest gold market, were swamped as buyers throughout Europe demanded gold, gold and more gold. More than 200 tons, or $220 million worth, changed hands on the London gold market in one day to establish a new single-day trading record. Where gold could be bought directly, mob scenes erupted and the price soared. Ten times the usual number of buyers jammed the gold pit in the cellar of the Paris Bourse, and fist fights broke out as the price on one day rose to $44.36 an ounce v. the official price of $35. In Hong Kong, frantic trading drove the price up to $40.71, and around the world investors and banks bought gold certificates and gold stocks. Many refused to accept the U.S. dollar in payment.

In dozens of nations, from Austria and Italy to Sweden and Ireland, ordinary citizens rushed out to buy gold coins to stuff socks and mattresses, cleaning out numismatic stocks virtually overnight. In London, a $20 U.S. gold piece sold for $56, a £ 1 British sovereign for $10.20. In Geneva, the Swiss lined up at tellers' windows to convert their savings to gold bars. There was even a run in Hong Kong on gold jewelry. All told, between $1 billion [910 tons] and $2.5 billion [2270 tons] in gold may have changed hands within ten days in London—as much as 10% of the total gold in the seven-nation Gold Pool, whose bullion reserves are the cushion for the $35 international price of gold. No estimate was possible of all the other trading in gold around the world, except that it was colossal.

Lost World? The rush was on because speculators—some avaricious, some panicky, some merely prudent—had become convinced that the U.S. and its partners could not much longer maintain the $35 price. With a balance of payments deficit of $3.6 billion last year and a war in Viet Nam that is costing some $30 billion annually, the U.S. has seen its gold reserves shrink by 50% from a postwar peak of $24.6 billion. Now, believed the speculators, the U.S. was nearing the end of its gold tether [This is beginning to happen now happening again]. If the U.S. could no longer sell gold to all takers at $35 an ounce and the price were allowed to rise to meet the demand, the speculators stood to make a handsome profit, just as they had in the devaluation of the pound sterling last November. Having tasted blood then, many scented another kill —and, in their wild buying, ripped and clawed at the remaining gold stocks in the Gold Pool [for more on the London Gold Pool, see my entry on Gold Wars].

Who were the speculators? The identity of most was veiled in the secrecy of Swiss bankers' files, but they were situated throughout the world. Perhaps as much as 40% of Swiss bank purchases were destined for safekeeping in the coffers of Middle Eastern sheiks and oil potentates. Latin American businessmen, affluent overseas Chinese, Asian generals—all claimed a piece of the action. The central banks of many smaller nations with precarious national reserve margins, including some Communist Eastern European countries, had undoubtedly joined in to protect themselves. More in sorrow than in greed, European corporations moved into the buying to hedge their foreign-currency holdings. So did some wealthy Americans with numbered Swiss accounts, although it is illegal for U.S. citizens to own gold bullion.

[When 2009’s gold rush and dollar panic truly begins, everyone, even US allies (Middle Eastern sheiks, European corporations, US citizens), will flee the dollar into physical gold.]

For the men who understood the situation best, the spectacle was appalling. "The world is lost," said London Economist John Vaizey. "A rise in the price of gold is inevitable now. It's like a grand opera of which the overture is over, and we're in the first act of a world depression." A usually unemotional Swiss banker warned that "in participating in gold speculation, capitalists are doing their best to destroy the capitalist system. If they win the battle in London, the probability is that the whole present international monetary system will come crashing down." French Economist Jacques Rueff, who has long predicted a crisis and argued for a rise in the price of gold, saw his worst jeremiads vindicated. "Whether one wants a gold price increase or not," said Rueff, "it will soon be achieved."

Two-Tier Price. Finally, the pressure grew so great that the U.S. refused to continue to feed gold to satisfy speculators' greed. In a telephoned message to British Chancellor of the Exchequer Roy Jenkins, the U.S. asked Britain to close the London gold market and shut off the flow from the Gold Pool. Prime Minister Harold Wilson hurried to Buckingham Palace for a midnight meeting with Queen Elizabeth, who declared a bank holiday in foreign-exchange trading. That shut off the Gold Pool's dealing, and money markets from Singapore to Lusaka followed suit. The Paris market alone stayed open.

The U.S. then invited representatives of the Gold Pool nations to Washington for a weekend conference. There was little doubt that the speculators had succeeded in wrecking at least part of the world's monetary system, and that the U.S. and the other members of the Gold Pool would no longer sell gold to all takers at $35 an ounce. What would likely be decided in Washington was a "two-tier" pricing system for gold, by which the speculators would have to conduct their transactions in a free market (see BUSINESS). Without the U.S.'s willingness to buy back speculative hoards, their price just might prove in the end to be lower than many of the hoarders think. [Over the next six years, gold went up 557 percent from $35 to $195 an ounce.]

Eric de Carbonnel

Market Skeptics

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