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Why Gold will Rebound

Nearing the Floor

Written by Brian Hicks
Posted July 12, 2013

Gold’s been taking a beating for quite some time, now—since April, to be a bit more specific. But it would seem that we’re at a turning point.

gold barsCNBC points out that over July (so far), gold has moved between $1,220 and $1,250/oz. While we’re not quite going to say that gold’s not going to drop any further, it’s plausible that any further drops won’t be quite as dramatic as what has gone before.

CNBC reports:

"I think the worst is behind us. A fall from $1,900 [in 2011] to $1,250 is a 34 percent fall and I don't see it falling another 34 percent from here. That said, I do not think we have hit bottom yet," Warren Gilman, chairman and CEO of CEF Holdings told CNBC on Wednesday.

It was between April and June that gold got trashed. During that period, gold dropped 23 percent, thanks mostly to worldwide ETF sell-offs. That will continue to pose a concern over the near future, along with the ongoing rise in Treasury yields and a strengthening dollar.

Treasury yields have experienced a marked rise in recent weeks, which (if the trend continues) would make gold assets less worthwhile since they offer low yield. Meanwhile, a stronger dollar is the result of widespread improvement in key economic indicators, and if that trend continues, it means gold futures will become more costly.

Of these factors, it is likely the ETF sell-offs are hurting gold the most. Once they slow down and stop, gold will have more of a footing to stage a comeback.

India could play a key role in gold’s fortunes over the next few months. That nation recently implemented curbs on gold buying by raising import duties and limiting banks’ abilities to buy gold on consignment terms.

India is the world’s largest purchaser of gold, with China coming in second. However, given India’s efforts to restore some of the rupee’s strength, gold could actually benefit. When the rupee is stronger, India can buy gold in massive volumes.

The other factor is energy prices. Higher energy prices could lead to inflation, which would see a turn toward gold as a safe-hedge bet.

CNBC quotes Jonathan Barratt of Barratt’s Bulletin:

"We have the prospects of a cost push inflationary environment, given where energy prices are heading, rational investors will stop selling ETFs.”

The basic logic for believing in gold is really simple. It was, is, and will continue to be the safe-hedge bet. Obviously, we’re a long way from gold at $350/oz (July 2003). But this decline doesn’t necessarily mean gold has lost its power to draw investors seeking a safe bet against economic pressures.

What has changed is the economic framework in some other parts of the world. China, for example, has seen its national growth falter. India’s explosive growth rate, which was the talk of financial papers the world over just a few years ago, has dropped sharply.

Nonetheless, despite a severe financial “sequester,” the U.S. economy’s fundamentals appear to be on the mend. So why should you look toward gold?

Believe in Gold

The first and most obvious argument is that gold remains a safe bet against economic catastrophes. For investors in countries where paper currency can be uncertain (think places like China or India), having the tangible asset of gold can be a big relief.

For a more detailed analysis of the historical case for gold, see Kenneth Rogoff (Harvard) over on The Guardian. The essence of his op-ed is, in short, that gold is not a sure-fire thing and never was. However, it is almost certainly better to have it than to not have it.

Yes, we’ve seen a drastic fall in gold’s fortunes of late, but we’re also finding reasons to believe that its value will go back up—if perhaps not to the vaunted highs of a decade ago. Today, gold prices hit $1,285.20.

One reason why investors should monitor the Fed’s statements regarding its stimulus program is that the Fed has been wrong in the past in its assessments of the nation’s economic health. Many continue to believe that any tapering-off of the stimulus program, even toward the end of this year, is highly premature. If they are right, it would mean the inflation—which has remained in check thanks to the Fed’s actions so far—would go right back up. You’ll be glad you bought gold then.

 

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