One hell of a correction in gold prices could be on the cards - Murenbeeld

Given its parabolic rise recently, gold is vulnerable to strong policy actions over the short term, even while the long term trend remains strong, the question is whether or not they will be forthcoming.

Author: Geoff Candy
Posted: Monday , 22 Aug 2011

GRONINGEN -

Martin Murenbeeld is not a gold bear. Indeed, in his most recent Gold Monitor report, the Chief Economist at Dundee Wealth Economics is quick to point out that he is more bullish than he ever has been about the prospects for the yellow metal, but that is over the longer term.

What is concerning him at the moment is the parabolic nature of the latest move. As he says, " I don't have a problem with gold at $1850 or $2000; I have a problem with the speed with which these levels have been reached."

As he points out, "The pm fix on July 15 was $1587.00. (Was that another era?) The pm fix today [August 19th] came in at $1848.00 which, although not as high as the am fix of $1862.00, was still the highest nominal pm fix for gold ever recorded. The market is now within sight of $2000, and my view that gold would take out its inflation adjusted high of January 1980 over the long-cycle - that high is approximately $2400 today - could yet be realized before a major long-cycle correction occurs."

This long-cycle correction was only really expected sometime in 2013 but on current trends, gold is likely to break its nominal highs well before that. But, he says, "nothing goes up in a straight line! I suspect that there is one hell of a correction to this most recent surge in the not too distant future. Yet such a correction will likely depend upon policy actions that policymakers are very reluctant to take.

Before looking at how Murenbeeld thinks things may play out, it is worth looking at some of the major factors behind the massive increase in gold over the last few weeks. The first factor, Murenbeeld talks to is the serious mishandling of the US debt ceiling issues by politicians. This he says, " has seriously reduced confidence in US political leadership" and resulted in the downgrade of its debt by S&P.

The second point of concern is the time delay between recent developments in Europe and the political policy aimed at solving the crisis. "We had not expected the markets to reject Spanish and Italian debt quite so soon, which is one key reason why gold has outperformed our short-run expectations; gold rose some $77 in the two days following the S&P downgrade and ECB debt purchases."

The third factor helping to boost the price of gold is the growing tide of central bank buying that was most recently exemplified by the Bank of Korea's purchase of 25 tonnes of the yellow metal Central banks bought 200 tonnes of gold in the first half of 2011 and this, Murenbeeld says, is an indication that "these higher gold prices are not a significant deterrent to ongoing central bank reserve diversification."

The fourth and final mitigating factor in this latest, parabolic move is the continuing inflationary pressures being built up in India and China which add further support to the gold price while the crisis plays out in the US and Europe.

For Murenbeeld, the strong growth in central bank buying and the purchases taking place in India and China in response to inflationary pressures are both likely to continue and set up a long term bullish trend for the yellow metal.

The other two factors however, are likely to play a key role in the near term moves expected from gold.

"Confidence in US policy is low and were the US to re-enter a recession there is little doubt that the Fed would initiate a QE3. Furthermore, the weaker the US economy becomes, the more likely the US will resort to currency devaluation and protectionism. That will further enhance interest in gold," he says.

With respect to the other crisis he says, "unless some "bazooka" is brought to bear on the Europe, which in this case should be a massive enlargement of the EFSF and the immediate promise of Eurobond issuance, I don't see European markets calming down very much. And North American markets will be volatile as the result of the contagion effects, meaning gold goes higher...In short, gold is vulnerable to strong policy actions, but such actions do not appear forthcoming over the very near term."

But, he cautions " Congress did eventually pass TARP - on the second try, so it is possible Europe could cobble something together in the near term that will provide some relief for bank equities and European debt markets. Does all this suggest some gold puts might be in order? It's a tough call!"