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Gold Falls To $255, Bounces Back Sharply
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(February 28, 2001) Gold has bounced back sharply in price since February 14th, when gold prices went below the $260 level for the first time in 16 months. Gold found out that "nobody loves you when you're down and out," as the old song goes - the financial press had a field day kicking gold when it was down. The question is: Is this latest move the long-awaited 'double bottom' on the gold price charts that finally signals that the worst is over?
In a repeating pattern, gold falls in price and threatens to break a 21-year low. Once gold broke through the $260 level on February 14, it was obvious that all bets were off and gold was heading lower. Some say, very much lower. The obvious support is at the $252-253 level we last saw in August of 1999.

If gold holds at that level, then a convincing double bottom has been set for the yellow metal. You can bet that the trading will be fast and furious next week. In a nutshell, a war is on between the longs and shorts in the gold market. Physical demand is strong, and buyers came out of the woodwork this week to scoop up some gold bullion on the cheap. Demand was "coming out of everywhere, whether the Far East, India, or the Middle East," according to today's Wall Street Journal.

But reading the popular financial press, you get the impression that gold has no friends at all.

Barron's "Commodities Corner" column by Cheryl Strauss Einhorn on February 12 was entitled "Tarnished! Nobody Expects Gold Prices to Turn Up Soon." She lead off her column by commenting on Harmony Gold's purchase of two mines from Angolgold, and the request of its lending banks that Harmony put a hedging program on - that is, sell forward its gold production in order to insure against further declines in the spot gold market.

She quotes Ferdi Dippenaur, Harmony's director of marketing, as saying, "Financing is tough to come by these days" in the gold sector. "We've always been unhedged, but our banks won't lend us the money any other way."

Notwithstanding Einhorn's reputation as a commodities bear (a wise position to take over the past few years), this is simply telling it like it is. It may seem like heresy to gold bulls that a mining company would agree to hedge its production in a market near a 21-year low, but it's simply prudent business to the banks who are financing the purchase of gold mining properties.

Nonetheless, selling future gold production at the $260 level reflects the general gloom in the gold market.

Painting the total bear picture from London, where the Bank of England's announced auctions of 25 tons of gold from British reserves every two months has done more to disrupt and dishearten the gold market than just about anything, the Financial Times said this:

"Not only is the yellow metal no longer at the heart of the world's financial system; even its value as a hedge in uncertain times is coming into question. The UK Treasury told parliament this week that reducing the weight of gold in the Bank of England's portfolio has actually served to reduce the portfolio's level of risk. Gold has become a marginalised currency that is still in search of a new - and probably much lower - fair value."

Such talk about the Bank of England "reducing the portfolio's level of risk" makes the startling assumption that a country's reserve is better held in foreign fiat currencies rather than the timeless value of gold. Think about it this way - how would we as Americans feel if Fort Knox was emptied of its gold and filled, instead, with Japanese yen and eurodollars? If that happened, would anyone in this country actually sleep better at night?

Bloomberg News also had its say about gold this week. "Producers are just scared that they're going to miss out'' on current prices, Bloomberg News quotes Clive Ginsberg, a hedge fund manager at Mariner Investment Group in Harrison, New York. Speaking of gold producers, he said, "They see everybody else selling, so they just do it. It's the same attitude that prevailed in 1999,'' the year when prices fell to a 20-year low.

After ignoring gold during its $20 slide this year, the Wall Street Journal's David Bogoslaw headlined his February 16th "Commodities" column "Gold Falls to Lowest Price Since September 1999."

The Journal article points out "With the market in a technical downtrend, and all eyes focused on a test of the low of $252.50 made on August 25, 1999, most traders said they believed it was just a matter of time before the market explored the lows again."

Bogoslaw reported that that Frank McGhee, a dealer with the Chicago trading firm Allliance Financial said that it was "dangerous to be a buyer before a bottom was established" and that he expected a test of the $250 level. If gold reaches that level, he says, "If we hold, it's a massive base. If we don't, it's 20 to 30 bucks to the downside."

So, if you're considering the purchase of gold, when do you place your bet? Do you buy it now, or do you wait and see if it gets substantially cheaper?

Of course, trying to pick a bottom to any market is generally a fool's game. We can report that at Onlygold we have had one of our best weeks ever, with many new buyers getting their feet wet for the first time, while many repeat buyers have taken advantage of the chance to buy gold at 1/3 less than it sold for in 1996.

Of course, there's no denying the potential for lower prices, especially if futures prices break below the 21-year low of $252.50.

But with the increasing short position of traders, hedge funds, mining companies, and bullion banks, the truth is that perhaps thousands of tons of gold have been sold short into this market, by parties who don't actually have that gold to deliver.

Actual warehouse stocks of gold are small. Short interest is large. Demand for gold as a trading medium has withered to nearly nothing. And the futures markets (the 'paper' markets) are acting as though gold has become obsolete.

So what's the positive case for gold prices?

The technical case for a large gold breakout to the upside, probably this spring, has been convincingly made by some commodities technicians (chartists). But we have a confession to make about our own reaction to technical analysis: whenever we hear the word 'stochastics,' our eyes glaze over and we start to think about baseball instead.

Instead, let's point out a few good old-fashion fundamentals:

Consider these: U.S. financial markets (where much of the world's money resides) today are shaky, and our stock market no longer appears the steady and safe place to be. Corporate earnings are down this quarter in many sectors, producer price inflation was a startling 1.1% last month, energy costs are skyrocketing, and today the U.S. and Britain started to bomb Iraq.

Any number of unforeseeable crises could further unsettle things and spook the holders of 'fast money.' And should even a modest amount of this money start to seek the safe haven of gold, the legion of short bettors in the gold market would be unable to deliver the 'promised gold,' the sales of which have kept bullion prices down.

In the world today, there's a shortage of physical gold that's not already spoken for. In the event of unexpected increased demand, that fact alone would send gold prices substantially higher.

And it could happen much more quickly than someone reading today's popular financial press today could ever imagine.

 

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