I highlighted the accompanying chart before. Gold staged an upside breakout at 2100 out of a cup and handle pattern. It recently rose above 2500 to an all-time high. In addition, the cup and handle breakout of 2024 is highly reminiscent of a similar breakout in 2005. Not only did the gold price stage upside breakouts, but also the gold/S&P 500 ratio made a rounded saucer shaped bottom (bottom panel) that resolved in over a decade of positive relative performance.
In December 2023, I studied the factors driving gold strength and concluded that they “should be bullish for the price of risky assets” (see
The Market Meaning of a Gold Breakout). In June 2024, I focused on the inflationary pressures behind fiscal dominance and looked forward to the November election. I concluded that gold prices should benefit regardless of who wins the White House, but a Trump win would be especially inflationary (see
Why the November Election Matters to Gold).
Now that gold has reached another all-time high at 2500, will history repeat itself? Is this another generational buying opportunity or a bull trap fakeout?
Reasons for caution
Let’s begin with the reasons for caution. Conventional drivers of gold prices have lagged the yellow metal and they are forming negative divergences that warn of excessive frothiness.
Gold has traditionally been inversely correlated to the USD. But USD weakness (inverted chart scale) doesn’t explain why gold is at an all-time high. As well, gold is thought of as a hedge against inflation. However, the price of TIPS, or inflation-linked Treasury bonds, made a lower high even as gold breached 2500. A similar negative divergence can be seen in RINF, the inflation expectations ETF linked to the price of the FTSE 30-year TIPS Index.
Should investors be worried about these technical warnings of possible weakness?
New bullish factors
The bull case can be summarized this way. Even as the conventional factors affecting the gold price have stumbled, other factors have emerged to support demand for gold.
In particular, gold prices have soared because of central bank buying for geopolitical reasons. Central bankers saw the effects of how America could weaponize the banking system by denying access to SWIFT after the onset of the Russo-Ukraine War. The most prominent central buyers of gold were Russia and China as they sought to diversify their holdings away from USD assets in the event of a geopolitical conflict.
For some perspective on the magnitude of fund flows, central bank buying has strongly supported gold prices in the last few years.
Aside from PBOC demand for gold, Chinese households have also been buying. I pointed out in the past the softness of the Chinese economy (see China Slowdown = Reduce Risk). The Chinese yuan is overvalued, but the PBOC dare not allow it to weaken too quickly as it has the potential to start a capital flight stampede. The downward pressure has shown up in Chinese private demand for gold. Reuters reported that Chinese buyers are back after a brief two-month hiatus:
Several Chinese banks have been given new gold import quotas from the central bank, anticipating revived demand despite record high prices, four sources with knowledge of the matter told Reuters.
The new quotas, aimed at helping the People’s Bank of China (PBOC) control how much bullion enters the world’s leading consumer of the precious metal, were granted in August after a two-month pause largely due to slower physical demand in the wake of a bullish market.
In addition to central bank and Chinese private demand, the conventional drivers of gold are also tactically turning up. Central banks are cutting rates as inflation falls, which has the effect of reducing real rates, which is supportive of higher gold prices.
In addition, estimates of global liquidity are turning up, which is reflationary and supportive of higher gold prices.
Too frothy?
As a consequence, western investors of the gold ETF (GLD) have returned to the party. This can be judged bullishly as either as the start of a momentum stampede or in a contrarian bearish fashion as the dumb retail money piling in.
There is no question that gold is extended in the short term. SentimenTrader observed, “It’s rare to see sentiment toward gold more optimistic than other major markets. April 2020 is the only time in the past decade when sentiment toward gold was higher than that toward stocks, bonds, and crude oil.”
On the other hand, my analysis of gold sentiment has a more nuanced view. The bears will argue that the percentage bullish on point and figure of gold mining stocks (GDX) is above 80% (bottom panel), which is in the overbought zone and a sign of a frothy market. The bulls will argue that the gold miner to gold ratio is only in the middle of its three-year range. More importantly, junior gold mining stocks (GDXJ) are near the bottom of their range against the senior miners (GDX), which is hardly a sign of excessive speculation.
Here is my view. The upside breakout in gold prices has more room to run, though the market is extended and could pull back at any time.
The long term question with gold is “Will people still want it?” We have plenty above ground for jewelry and industry, so it is back to the story of “it’s rare, it keeps forever and has had value for over 5000 years”. All true, but for most of us gold does not provide the hedge of even 200 years ago when it was used in currency and could provide security.
What if gold were less rare? There are several cubic miles of gold in the oceans. If someone finds a way to extract it commercially (at a price of course). What does that do?
But perhaps there is a future in a gold backed currency after this fiat episode fails like they always do. So maybe those banks are stocking up for the future, perhaps several years from now when there will be gold backed currency…that would be after some awful collapse that would possibly change all the rules, as in 1933, so holding some might not work.
For most of us interest rates do not influence our buying or selling of gold because the premiums for buying and selling physical are high. Different story for GLD and other precious metal ETFs where this is much less.
But for now we have endless deficits, debt, geopolitical stresses, and gold is in an uptrend.
What kind of dips , shakeouts, trapdoor drops there will be in the coming years I have no idea except that I expect some.
If you are long gold futures, and the price drops 100 bucks in 2 days, unless you bought it long ago it’s rough. Yet after these recent smackdowns it goes higher. Somebody benefits from weak hands being shaken out, so I expect this to continue.
Most investors are not aware the gold has outperformed the S&P ytd. The best way to trade gold or NUGT is to buy pullbacks and sell breakouts. The last few times gold pulled back after making fresh new highs.
The US is on a collision course with history. USD is fiat currency and at some time in the future will cease to exist. History supports this absurd argument in favor of holding some assets in the form of gold.
Actually gold has very little to no value in time of stress. I read recounts of the Kosovo wars when Clinton was in office. What they want is medicine, food/water, and ammunition. Not too long ago I watched one indie movie about a group of SIlicon Valley techies (or today tech bros) went to a very small town in northern Calif forest to sort out their relationship problem and startup funding. So in the movie these men and women are Stanford MBAs or undergraduates. And they have problem in the funding and equity structures in their startup. On top of that their deteriorating relationship complicates the situation. And then apparently part of the reason they got out of SV is that more and more average folks are becoming hostile to their presence in the Bay Area, and they feel it. This is consistent with rising unhappiness toward tech bros today in the Bay Area, especially after the news broke out that Marc Andreessen and his billionaire friends are buying up farm lands in North Bay trying to create a new city just for them. Bill gates is the second largest private landowner in America today.
Anyway instability started to spread in the Bay Area and they can’t go home and have to stay and figure out what to do next. While they are there a group of military men come to rob them. They are able to survive the attack, but badly bruised. Movie sort of ends there and leaves a lot for viewers to ponder. In the second half of movie you started to see them barter with local folks. Money is of no use. Who cares about your stock option? And the truth about military: 1/3 psychopaths looking for opportunities to legally kill people, 1/3 poor people looking for opportunities to survive, the remaining 1/3 patriotic for whatever/unknown reasons.
America is looking more and more like powder kegs, with R and D voters’ hostility toward each other ever escalates. That makes me, an I voter, increasingly concerned. One very unpleasant scenario I envision is that R voters cut off food and water supply into coastal D population centers to starve D voters, if an outright confrontation erupts. Do not underestimate the probability of actual shooting. Who is likely to survive? Those are people not living in coastal cities and actually own their land and can produce daily necessities. CIty folks have nothing to offer in a bartering system.
I pray to God we resolve the differences and work together and prosper. But history repeats itself and unpleasant things happen. I am prepared.
Thanks for your comments that are true and plausible. The book that comes to mind is titled America Secession by F.H. Buckley. The curse of history that befell Rome also applies to America and will be no different IMHO. Statistical odds support both my arguments in favor of gold and American secession. Yes, these sound like conspiracy theories, although history favors such outcomes.
Which is why those in power will print money to paper over the next crisis . If things fall apart and we get to the law of the jungle, gold or USD are of no use. Guns and beans maybe, but what kind of a life would that be?