With gold off its highs of 2008 by 10% in dollars, it still sits at a high against other world currencies, most especially the British pound. The past year has witnessed a great amount of market volatility that has sent investors and traders cashing out of the market to preserve their capital. Majority of Banks worldwide have had their balance sheets heavily attacked, and have heavily reduced lending, creating a credit crunch. The US is plagued with headlines of job losses and has since fallen into a recession with the lack of consumers having enough to spend so as to push up the economy.
In January 2008 gold peaked at a price a little over $1000 with intense recessionary fears, and by the final quarter of 2008 gold traded as low as $720. Though there was the speculation of heavy manipulation in the gold market, gold prices fell when investors began to realize that the US was fighting a battle of deflation with the threat of inflation not being an immediate threat. It is believed that the recession in the economy will slow down any debasing of the dollar.
The dollar which started 2008 by taking a major beating has since then turned to be a currency of strength amongst other world currencies. Investors worldwide are cashing out of various asset classes in this period of forced liquidation and are buying US dollars, hedge funds and other money managers have to buy US dollars to meet redemptions. The US dollar still remains the world reserve currency and is seen as a safe haven in this world economic crisis. This is not to be confused with the idea that the US economy is stable. World central banks have turned to the US to seek funds to increase liquidity in their economies.
This rise in the value of US dollar, being the world standard for purchase, has crashed the prices of commodities. Commodities have taken a beating of over 40% since their peak in the summer of 2008. Amidst this gold took a part of the hit in the fall of commodities, with crude oil taking the biggest hit. In spite of this, gold still came out profitable in 2008. Now what do we make of this? With the CRB index down over 40% in 2008, and gold coming out with a 5% gain in dollars, as well as being at a high against other currencies, what does that tell us?
Gold is commonly seen as a hedge against inflation, because of its fixed world supply, which causes the precious metal to rise in value with the increase of the circulation of paper money. However as stated earlier, the perception was sold to investors that inflation is not an immediate threat to the US economy. The US inflation in 2008 was put at 0.1%, but is the 5% rise in the price of gold a better indicator of the inflation in the US? Nevertheless, the US agrees to be fighting the battle of deflation and have decided to print money so as to spend the US out of this economic downturn. So far in the past year we have witnessed the Federal Reserve’s balance sheet increase by over $1.2 trillion, and there currently is no sign of this stopping because there seems not to be a clear bottom in sight.
With this increase in liquidity being turned into the market, the US dollar will slowly but surely begin to turn worthless (except you subscribe to the notion that the Fed will print just enough to stabilize the economy), when this happens, the value of gold will sky rocket.
(click chart to enlarge)
The gold chart above shows comex gold futures consolidating in a triangle pattern, last week witnessed a breakout to the upside, given the current price of gold, it remains extremely volatile, and with the rally is expected a dramatic pullback also. At this point two cases exist for continued upside in the gold market. A breakout above the upper downtrend line will likely send gold above $1000. However gold may retrace down to $834 (or the lower uptrend line) in which case it will be expected to continue its movement up.
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