Speculators have thrown in the towel on gold, but they might regret it
We, more than most, are quick to remind investors that gold has its limitations as an investment product. It doesn’t pay a dividend or a coupon payment and, aside from the value humans place on it, it isn’t worth much. After all, it is too soft of a metal to be used for most industrial purposes. If it weren’t for our obsession with history and the gold standard, it would be just another element on the periodic table. Nonetheless, when it comes to the financial markets perception often goes much further than reality does. Accordingly, we feel as though speculators will eventually fall back in love with the “idea” of hedging inflation and economic risk with gold.
Once again, we aren’t stating that gold is some sort of safe haven or inflation hedge, because history suggests that it isn’t. All we are saying is that humans are destined to repeat cycles and we rarely learn from our exuberant mistakes. If we are right, gold bulls will soon be rushing back to their favorite speculation.
The latest Commitments of Traders Report (COT) issued by the Commodity Futures Trading Commission (CFTC) reported that the trading group categorized as “large speculators” are currently holding the smallest net long position in gold futures since 2009. The group is collectively holding a net position of about 43,000; this is a rather shocking stat given the fact that the group has often held in excess of 200,000 since the turn of the decade. Small speculators have also liquidated nearly all of their net long gold positions. As of the latest measure date, this category of trader was holding a mere 423 contracts!
Although we’ve yet to see any evidence of inflation in the data, we can’t help but feel it will soon be a concern. Don’t forget, if traders simply expect inflation they will react accordingly. Whether or not we actually feel the price pressure is almost irrelevant, just the discussion of it is enough to flip the markets. If you don’t believe me, look at a Treasury chart. The market collapsed on the first hint of the Fed possibly tightening its purse strings, yet the central bank continues to buy the securities in full-force. In other words, in the financial markets, sometimes words actually do speak louder than actions.
We wish it were as easy as saying buy gold right here, near $1,220, but it isn’t. The market is oversold and will likely see a bounce out of here in the short-run but we have a feeling that a much more meaningful low will have to be made before we can start talking about a potential bottom. After all, the seasonal low isn’t due until later next month; in a volatile market like gold, a month is an eternity.
If you are an aggressive trader, it might be worth a nibble off of $1,220/$1,210 support, but it probably isn’t a good idea to go all in quite yet. With $1,250 support broken, there isn’t much stopping gold from tumbling into the $1,150 area. If this price is seen, we would consider it a great place to be a bull.
Should the $1,220/$1,210 area hold the first objective for the temporary rebound should be near $1,340 to $1,347 but there is a possibility of a retest of the $1,420 area. Once gold posts the seasonal low, which we won’t know for sure until after the event occurs but we suspect it might be from the mid-$1,100s, we wouldn’t be surprised to see a sharp recovery. In fact, prices could return to the $1,600s or higher much later in the year.
Please keep in mind that this market is treacherous, and not for the risk averse. In the futures markets, traders are likely best sticking to the e-micro contracts that allow for easy dollar cost averaging and buy and hold opportunities for small traders. An e-micro futures is one-tenth the size of the original contract; a trader makes or loses $10 per dollar of movement in the price of gold.
Once gold posts the seasonal low, which we won’t know for sure until after the event occurs, we wouldn’t be surprised to see a sharp recovery. In fact, prices could return to the $1,600s or higher much later in the year.
Please keep in mind that this market is treacherous, and not for the risk averse. In the futures markets, traders are likely best sticking to the e-micro contracts that allow for easy dollar cost averaging and buy and hold opportunities for small traders. An e-micro futures is one-tenth the size of the original contract; a trader makes or loses $10 per dollar of movement in the price of gold.
