May 29, 2024

Bearish Outlook On Gold Signals Buying Opportunity

Despite the fact that gold has outperformed virtually every other asset class for the past decade, the September correction in gold prices has caused market sentiment to turn decidedly bearish.  As measured by the London closing fix price, gold reached an all time high of $1,895 on September 5th.   Within the next three weeks, gold had plunged by almost $300 per ounce, closing at $1,598 on September 26th.

Did September mark a turning point in the decade long gold rally, as many have suggested, or is it a buying opportunity?  A review of the factors contributing to the September sell off suggest that from a contrarian and fundamental point of view, the groundwork is being laid for a move to new highs in gold.

Extreme volatility in global equity markets due to the European debt crisis resulted in losses and subsequent margin calls for many leveraged investors who indiscriminately liquidated whatever they owned, including gold investments.

In mid November, SEC documents disclosed that Paulson & Co., the hedge fund run by legendary investor John Paulson had liquidated 11.2 million shares of the SPDR Gold Trust (GLD) during the quarter ending September 30th.  Paulson’s exact motives in selling the GLD remain unknown, but is was reported that huge losses in his hedge funds had resulted in the forced selling of SPDR Gold Trust shares.

Besides helping to drive down the price of gold, investors may view Paulson’s large sale as a bearish signal from an investor who has an incredibly successful long term track record.  Paulson, however, still remains the largest shareholder in the SPDR Gold Trust with a position of 20.3 million shares at September 30th.  In addition, Paulson reportedly remains long term bullish on gold and may have large positions in physical gold through allocated bullion accounts.

In addition to the factors mentioned above, gold may simply have gotten ahead of the fundamentals.  Every long term bull market experiences episodes of sharp price corrections and consolidation.  Over the past decade, with a brief exception in 2008, gold has found solid support at the 200 day moving average.  In April 2009, July 2010 and February 2011, gold experienced a sustained multi-month rally after correcting down to the 200 day moving average.  Currently, a retreat to the 200 day moving average would bring gold down to the $1,600 level.


Gold - courtesy

Mark Hulbert, of the Hulbert Gold Newsletter, who tracks investor sentiment on gold says that the bearish sentiment on gold is reaching extreme levels.  Hulbert says “According to contrarian analysis, this is building a strong foundation for a fresh assault on gold’s recent all-time high above $1,900 an ounce.  This doesn’t guarantee that gold will rise from here, of course, or that it will do so right away. But it does mean that contrarian analysis is currently on the side of the bulls”.

Patient long term investors in gold have been well rewarded.  Despite the September correction, gold prices have advanced by $364 per ounce in 2011, for a gain of 26%.


Silver ETF Holdings Plunge As Market Selloff Continues, Gold ETF Holdings Show Small Decline

The amount of silver held by the iShares Silver Trust (SLV) plunged over the past week as the silver market experienced a major sell off.

Holdings of the SLV declined by 665.94 tonnes on the week.  To appreciate the magnitude of this decline, consider that the total silver  holdings of the SLV at its inception in April 2006 was 653.17 tonnes.  In addition to this week’s reduction in silver holdings, the SLV saw a drop of 130.49 tonnes in the prior week.

Holdings of the SLV had recently hit a record high of 11,390.06 tonnes on Monday April 25 as prices soared towards all time highs near $50 per ounce.  Silver held by the SLV Trust has declined by 1,002.8 tonnes or 8.8% from the record high, bringing holdings back to the levels reached on February 10th of this year.

The SLV currently holds a total of 334 million ounces of silver valued at $13.5 billion.  After recently reaching a high of $48.35 the SLV sold off sharply, closing yesterday at $38.27.  The SLV has declined by 21% from its all time high reached five trading days ago on April 28th.

GLD and SLV Holdings (metric tonnes)

May 4-2011 Weekly Change YTD Change
GLD 1,219.94 -9.70 -60.78
SLV 10,387.26 -665.94 -534.31

A multitude of factors, both fundamental and technical were cited for the sharp decline in silver prices including:

  • Five margin increases on silver futures contracts, including two new ones announced on May 4th by the COMEX.
  • Liquidation of silver holdings by a hedge fund run by George Soros.
  • Excessive speculation in silver as indicated by huge volume in SLV trading.
  • Manipulation of the gold and silver markets by large players with short positions..
  • A very overbought market described by some as a “religious fervor” for silver.
  • Profit taking at the technically significant level of $50 per ounce, last reached in 1980.
  • The end of QE2 announced by the Fed last week.
  • Huge record volume in silver futures trading.

In any event, silver has become significantly cheaper in the past week and the fundamental reasons for owning precious metals remain intact (see Why There Is No Upside Limit For Gold and Silver Prices).  Long term investors should welcome the shakeout of day traders and speculators from the silver market and view this as a buying opportunity.

Holdings of gold by the SPDR Gold Shares Trust (GLD) declined modestly by 9.7 tonnes.  Current gold holdings of the GLD amount to 39.2 million ounces valued at $60.4 billion.

The inability of politicians to seriously address the budget deficit and ballooning national debt provide a compelling reason to diversity out of the U.S. dollar and into precious metals.   The dollar is close to all time lows as numerous countries announce their intention to diversify out of dollars to protect their wealth.  The disclosure that Mexico had significantly increased its gold reserves this year highlights the flight from paper currencies.  Based on the fundamentals, long term investors should view a correction in precious metal prices as an opportunity to add to positions.