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It’s Time For Contrarians To Get Bullish On Gold

It’s Time For Contrarians To Get Bullish On Gold

Release Date:  Friday, August 17, 2018


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Gold and Silver Prices

Despite closing higher on Friday, gold has its biggest weekly loss since May of last year. The U.S. dollar continues to be a driver for the precious metal.

"Bullion has lost out in a paradigm shift where the metal's no longer viewed as the traditional refuge when investors are in a risk-off mood, but that won't last, according to Rick Rule, chief executive officer of Sprott U.S. Holdings Inc.

"Investors are favoring U.S. Treasuries, and that's seen the dollar get stronger, Rule said in an interview from Vancouver Wednesday. But the greenback's strength is relative, not absolute, and the overwhelming faith that the global saver has placed in the U.S. currency is 'probably partly misplaced,' he said.

"'The world, to some degree, has been quite used to bad news,' Richard Hayes, the chief executive officer of Australia's Perth Mint. 'If you were to go back seven or eight years, any one of the trade wars, or what's happening in the Middle East, or China, Brexit, the rise of the far left and far right, any one of those events would have been enough to make a fairly significant impact on volatility of prices of precious metals.'

"Rule holds physical gold in his personal portfolio as a form of insurance. He still sees gold reaching $1,400 an ounce, a level he forecast earlier this year, but refrained from giving a time frame." ("Gold Will Fight Back Dollar for Haven Status, Sprott Says," Ranjeetha Pakiam and Susanne Barton, Bloomberg, 08/16/18, Updated 08/17/18.)

Gold ended the week down $26.60, closing at $1,184.60. Silver ended the week down $0.50, closing at $14.77.

It's Time For Contrarians To Get Bullish On Gold - Holmes

Frank Holmes, CEO and CIO at U.S. Global Investors, sees Turkey's faith in gold, possible dollar peak and Vanguard's upcoming exposure to metals and mining drop as reasons to be bullish on gold.

"Gold can't seem to catch a break. The yellow metal normally acts as a safe haven in times of political and economic strife, but in the face of Turkey's lira meltdown, investors have taken cover instead in the U.S. dollar. On Monday, the stronger greenback pushed gold to end below $1,200 an ounce for the first time since January 2017.

"The lira fell to its lowest level ever recorded against the dollar Monday, mainly in response to President Donald Trump's call to sanction and double steel and aluminum tariffs on Turkey. This sent gold prices in Turkey's currency to all-time highs. If you recall, we saw the same thing happen recently in Venezuela, where inflation is expected to hit 1 million percent by the end of the year.

"Turkey's faith in gold was on full display this week as President Recep Erdogan urged his fellow Turks to convert their gold and hard currencies into lira in an effort to prop up the country's hammered currency. The same strategy was used in December 2016, a month after Trump's election sent the lira tumbling against the dollar.

The Love Trade Is Strong in Turkey

"As I've discussed before, Turkey has a long and rich history with gold. Home to the world's very first gold coins more than 2,500 years ago, Turkey still stands as one of the largest buyers of the yellow metal…

"Along with Russia and Kazakhstan, Turkey also continues to add to its official gold holdings. Its central bank's net purchases in the first half of the year totaled 38.1 metric tons, up 82% from the same six-month period in 2017, according to the World Gold Council (WGC). This made it the second highest buyer, after Russia.

Time to Get Contrarian

"Gold investors might be discouraged by its performance this year, compounded by news that hedge funds are shorting the metal in record numbers. A lot of this has to do with the fact that, so far this year, gold has had a very high negative correlation to the U.S. dollar…despite a stronger dollar, gold is still up for the 36-month period-and climbing even higher over the long term. The dollar has only recently broken even, whereas gold has continued to hit higher lows since its phenomenal breakout in December 2015.

"The dollar could be ready to peak, with the potential for even higher gold prices. The metal is currently down two standard deviations over the past 60 trading days, so the math is currently in our favor for gold to rally.

Vanguard Just Gave Precious Metal Investors the Short Shrift

"There's another sign that gold has found a bottom.

"Last week, I spoke with Kitco's Daniela Cambone about Vanguard's decision to change its Precious Metals and Mining Fund. Starting next month, the fund's exposure to metals and mining will be dropped from 80 percent today to only 25 percent-meaning the world's largest fund company will no longer offer investors a way to participate, should gold and precious metals rally.

"This isn't the first time Vanguard has done this to investors. Back in 2001, it removed the word "gold" from what was then the Gold and Precious Metals Fund. The change coincided with a decade-long precious metals bull run that saw gold rally from an average price of $271 an ounce in 2001 to an all-time high of more than $1,900 in September 2001. That's more than a sevenfold increase.

"And now it's dropping the fund altogether-at a time when gold might be ready to break out.
"So could this mean another bull run is in the works? No one can say for sure, of course, but the timing of Vanguard's announcement is certainly interesting." ("It's Time For Contrarians To Get Bullish On Gold," Frank Homes, Forbes, 08/14/18.)

Recession indicators are flashing a yellow 'caution' signal, Pimco says - Reklaitis and Vlastelica

For investors concerned about recession, Pimco argues gold's recent low trading costs are an opportunity for investors to add an attractive portfolio hedge as one option.

"It's the question that some investors have been asking all year: is the market in the late stage of the economic cycle? Pimco's analysts say there are 'ample signs of change in the wind for investors,' including trade disruptions and both rising inflation and interest rates.

"'At this stage in the cycle, investors should consider inflation risk, market dispersion, recession risk and other key factors,' they wrote in an economic outlook, providing our call of the day. 'While recession indicators are not flashing a red warning signal that a downturn is imminent, which would imply a retreat to a defensive position, they are flashing a yellow "caution" signal.'

"Pimco gives five options for investors concerned about the prospect of recession.

"The first is shorter-maturity corporate bonds, which are 'offering more attractive yields than they have in years,' Pimco says. Their shorter maturities 'not only makes them less sensitive to higher rates, but they may also be more defensive in the event of a slowdown or recession.'

"In a more contrarian suggestion, Pimco also cites emerging-market currencies. The implosion of Turkey's lira has recently underlined the risk of EM currencies, but 'we feel the underperformance is overdone given current risks, and there are pockets of value in EM that rigorous research and an active management approach can uncover,' Pimco wrote.

"Pimco's team of analysts noted that 'any unanticipated slowdown could lead to further underperformance,' but that 'a diversified and appropriately sized investment should be part of any long-term asset allocation.' (Emphasis in original.)

"In a more traditional play, Pimco's third late-cycle suggestion was gold, another security that has struggled in 2018, down nearly 10%. Noting the recent underperformance, Pimco argues gold is trading cheap relative to U.S. real yields, enabling investors to add a portfolio hedge at attractive valuations.

"The fifth play is for 'alternative risk premia,' particularly liquid strategies (as opposed to private equity and venture investing, which Pimco wrote would have a high correlation to stocks in a downturn). 'There is a rich universe of strategies available in the fixed income and commodity markets that can be combined with equities and currencies to form diversified portfolios that seek to harness the benefits of alternative risk premia,' it wrote." ("Recession indicators are flashing a yellow 'caution' signal, Pimco says," Victor Reklaitis and Ryan Vlastelica, Market Watch, 08/16/18.)

Stock-market investors should brace for a weaker dollar, says Goldman Sachs - Tappe

Goldman Sachs strategists forecast the dollar to weaken 7% over the next 12 months.

"Stock-market investors shouldn't get too used to the dollar rally, Goldman Sachs analysts warned Friday. They expect the U.S. dollar to weaken by 7% over the next 12 months and urged investors to factor that outlook into their equity positions.
"'Foundational to the forecast is our expectation that global economic growth data will stabilize,' wrote Goldman Sachs strategists led by Cole Hunter, in a note.

"This may sound somewhat of a contrarian call, as the dollar, measured by the ICE U.S. Dollar Index DXY, -0.34% has gained 4.5% in the year to date… But the dollar's fundamental advantages could be due to diminish, the Goldman strategists said. There's reason to believe 'the growth differential could narrow: our economists' global leading current activity indicator measured 4.1% in August compared to 3.7% in June, suggesting a nascent improvement in global economic growth,' they said.

"And that in turn, often coincides with dollar weakness.

"Sharp moves in the dollar can impact equities. 'From a fundamental perspective, S&P 500 SPX, +0.05%  earnings have a negative relationship with changes in the dollar,' the strategists wrote. The S&P has ;historically returned 1.7% in months with a sharp dollar move lower versus -0.5% during months with a sharp dollar move higher,' they said…" ("Stock-market investors should brace for a weaker dollar, says Goldman Sachs," Anneken Tappe, Market Watch, 08/17/18.)

Why Should You Invest in Gold - Inton

Gold as an investment, hedge against the U.S. dollar, and a safe-haven asset are all reasons to invest in gold.

"Gold has many uses, including jewelry, electronics, and investment, the key reason it checks out as a positive for functional purpose in our safe-haven framework. Nearly 40% of gold demand is related to investment purposes, including bars and coins, central bank purchases, and exchange-traded funds…

"… After a 21% drop in demand in 2016 amid challenges in its two largest markets, China and India, 2017 demand stabilized in China while India returned to growth. This helped global jewelry demand recover 13% to 2,214 tons in 2017. Nevertheless, this remains about 400 tons below the average from 2013 to 2015.

"Our long-term thesis is unchanged, as we believe rising incomes in the two countries will lead to growing jewelry demand. As it is anchored by a religious and cultural significance not seen in Western countries, we see little reason to believe that Chinese and Indian interest in gold will wane anytime soon.

"Other non-investment purposes for gold include electronics, dentistry, and other industrial uses. Gold has many attractive properties for use in these end markets…

Justifying Gold as an Investment Asset

"Although individuals buying bars, coins, and ETFs constitute the majority of gold investing, central bank purchases accounted for nearly 10% of total gold demand in 2017. As explained by Carl-Ludwig Thiele, member of the executive board of Germany's Bundesbank, 'The availability of reserve assets like gold strengthens public confidence in the stability of a central bank's balance sheet.'

"In other words, holdings in gold and other currencies can build confidence in fiat currency that otherwise has no backing. This may be particularly helpful for currencies that are facing concerns about the issuing government's economy. For example, Russia has been a significant gold buyer for its central bank in the past several years as its economy slowed.

"The public confidence gold lends to central bank balance sheets reflects the same reasons individuals invest in gold. We've classified individual gold investment into three major reasons, centered on its use as a store of value: inflation hedge, US dollar hedge, and safe haven.

Gold as an Inflation Hedge

"…If we look at inflation less the US 10-year Treasury yield against gold prices and see a stronger relationship. When inflation minus the opportunity cost approached and even surpassed zero, gold prices rose sharply. This validates gold as a decent hedge to inflation, as long as opportunity costs are taken into account.

Gold as a US Dollar Hedge

"To assess gold's ability to hedge against the US dollar, we've looked at how gold prices have trended against the real trade-weighted US dollar index. During the massive drop in the value of the US dollar from 2002 to 2011, real gold prices rose more than 600% from $250 per ounce to $1,500 per ounce.

"Similarly, a rise in the value of the US dollar after 2011 saw real gold prices drop more than 30% to almost $1,000 per ounce. Given the apparent negative correlation, gold appears to be a decent hedge to the US dollar.

Gold as a Safe-Haven Asset

"Lastly, we've assessed gold's viability as a safe haven. We define safe-haven assets by their ability to hold, or even increase, in value during periods of trouble or uncertainty. First, we've looked at how gold prices have trended against the US economy. Looking at the changes in the real gold price and real GDP growth quarter over quarter since 1990, we see that changes in the gold price hold a weak relationship to US GDP growth. We believe this provides evidence that gold is a decent hedge to US economic cycles.

"Next, we've looked at how gold prices have trended against equity markets. Looking at the changes in the gold price and S&P 500 quarter over quarter since 2000, we believe the gold price's weak relationship to the S&P 500 provides evidence that gold is a decent hedge to equity markets.

"We determine cryptocurrencies to have poor viability as a safe-haven asset. We established that gold's functional purposes, including for investment purposes that include safe-haven viability, should be sustainable in the long run…" ("Why Should You Invest in Gold?" Kristoffer Inton, Morningstar, 08/17/18.)