Does gold have a fu­ture?

The Pak Banker - - OPINION - V. Anan­tha Nageswaran

As I write this, gold spot price is be­ing quoted at around $1,095 per ounce. The peak about three years ago was around $1,800 per ounce. Gold bulls, such as yours truly, have been wrong for three years. Many bulls are frus­trated and are ready to give up. Of course, ca­pit­u­la­tion on the part of re­main­ing bulls will al­ways mark a true bot­tom in any as­set price. It is very ev­i­dent that gold is the anti-dol­lar. Things are al­ways clearer af­ter the fact.

Be­tween 2002 and 2008, the dol­lar de­pre­ci­ated against a broad bas­ket of cur­ren­cies. Gold ral­lied and reached around $1,000 per ounce. Then, as the cri­sis struck, in­vestors ac­tu­ally took refuge in the dol­lar. Gold fell briefly. Once the US Fed­eral Re­serve an­nounced that it was cut­ting rates to zero and was go­ing to print money to buy as­sets, gold re­sumed its rise. In fact, that prob­a­bly was the last hur­rah of the gold bub­ble, in hind­sight. Had gold peaked at around $1,200 to $1,400 per ounce in 2012, its fall since then might not have been so hard to swal­low for gold bulls. How­ever, gold went all the way to $1,800. So did other com­modi­ties. That turned out to be the peak. What has hap­pened since then, for com­modi­ties in gen­eral and for gold in par­tic­u­lar, is in­ter­est­ing. Since 2012, the broad trade-weighted dol­lar in­dex be­gan a slow up­trend. It has gained around 20%.

The rea­sons are not hard to seek. First, the US econ­omy avoided a re­ces­sion that looked al­most real in 2012. Sec­ond, the Bank of Ja­pan (BoJ) an­nounced a very ag­gres­sive round of as­set pur­chases in 2013. Thus be­gan the sharp and sub­stan­tial de­pre­ci­a­tion of the yen. Third, last year, the Euro­pean Cen­tral Bank (ECB) an­nounced that it was join­ing the fray and print­ing eu­ros at will. Fi­nally, the euro be­gan to lose ground against the dol­lar. Since these two cur­ren­cies are sub­stan­tially weighted in any dol­lar in­dex, the re­cov­ery of the dol­lar trade-weighted bas­ket has been a fore­gone con­clu­sion. Now, what is in­ter­est­ing about it is this. The ag­gres­sive ex­pan­sion of their bal­ance sheets by the BoJ and the ECB did not cause the price of gold to re­cover. It was the po­ten­tial col­lapse of the dol­lar and lack of con­fi­dence about the US econ­omy that kept the price of gold aloft up to 2012. In other words, gold is anti-dol­lar and not anti-pa­per cur­rency or anti-fiat money. Hence, as long as there is con­fi­dence in the US, its lead­er­ship of the world econ­omy and in its cur­rency, it will be dif­fi­cult for gold to dust it­self off the floor. Iron­i­cally, money-print­ing by the BoJ and the ECB have bol­stered the "there is no al­ter­na­tive" ar­gu­ment in favour of the dol­lar. Now that it has be­come a fa­mil­iar sight and rou­tine for China to pump more money at ev­ery sign of real or per­ceived stress in its econ­omy and mar­kets, in­vestors are right to trust the dol­lar more than they trust other cur­ren­cies.

There is another fac­tor that kept the party go­ing for gold bulls (in­clud­ing yours truly). That was the rise in global risk per­cep­tions from 2010 un­til 2012. First, the re­cov­ery from the cri­sis of 2008 was slow and un­even. The Amer­i­can econ­omy, for ex­am­ple, was los­ing jobs un­til mid-2009. Then, in 2010, the Greek cri­sis erupted and it was joined by other coun­tries in south­ern Europe. Bond yields in Spain, Por­tu­gal and Italy soared as did the cost of pro­tec­tion against de­fault by these coun­tries on their debts. In­vestors were ner­vous. How­ever, since 2012, those fears have re­ceded. There were oc­ca­sional and fleet­ing bouts of volatil­ity and fright. But, noth­ing more than that. Even the most re­cent tur­moil in Europe that raised fears of a frac­ture in the euro zone did not suc­ceed in rat­tling in­vestors. Bond prices in Spain, Por­tu­gal and Italy held up rather well.

A less char­i­ta­ble way de­scrib­ing in­vestor be­hav­iour is that com­pla­cency is high and un­shaken. Does it mean that gold bulls must lick their wounds and re­treat? Well, I am not throw­ing in the towel yet. It is al­ways the dark­est be­fore dawn. In­dices of volatil­ity and in­vestor un­cer­tainty in US stocks have fallen be­low lev­els seen be­fore they bot­tomed and erupted in 2007. The Fed­eral Re­serve looks set to raise the fed­eral funds rate in Septem­ber. Its goal, per­haps, is to get to 1% by end of next year. By then, both the stock mar­ket and the econ­omy cy­cle will have lasted far longer than his­tor­i­cal av­er­ages in­di­cate.

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