With the ‘trade war’ out of the headlines for a few days, US stocks remain well bid. That is, they just don’t want to go down.
Not yet anyway.
That means the ‘fear trade’ has subsided somewhat.
For example, US 10-year bond yields bottomed in late August at around 1.45%. They recently traded at 1.8%.
Gold, that other well-known fear trade, peaked in early September at around US$1,550 an ounce. It’s now trading around US$1,490 an ounce.
Gold stocks have fallen quite a way from their previous highs too. The hot money that came in a few months ago looking for quick and easy gains is now exiting. Nothing is really quick and easy in markets. If it’s easy, the only ‘quick’ thing about it is the losses that accumulate when the market turns.
The apparent trade war truce is the latest market narrative. This is no doubt boosting risk assets like stocks, and taking money out of fear trade assets like gold.
And then there’s the resilience of the US economy. Trump may be an evil, warmongering racist, but the ‘Trump economy’ is doing just fine.
It remains to be seen whether US corporate earnings will match the strong expectations priced in for the next few quarters. But for now, they’re receiving the benefit of the doubt.
This resilient economic performance has resulted in a winding back of expectations around the pace of interest rate cuts. You’ve seen the same happen here in Australia too.
This is all impacting the price of gold and gold stocks.
But really, it’s just a reflection of the ebb and flow of markets.
To show you what I mean, have a look at the US dollar gold price chart below. From late May to early September this year, it rallied more than 20%. Annualised, that’s a gain of more than 60%.
For an asset like gold, that’s an unsustainable move. It’s going to take time to ‘work it off’.
I have no idea where gold goes from here. But if I had to guess, I’d say the correction isn’t over.
There are a few reasons for that.
Firstly, it’s just one of common sense. After such a big move, the market always takes back some of the gain. How much it takes back is the big question. But I would say a not yet two-month minor correction is not enough to see gold turnaround and move to fresh highs.
Secondly, let’s take a look at sentiment. The easiest way to do this is to look at the positioning in the futures market. This market has a big bearing on the gold price, so it’s important to see what’s happening there.
I do this by looking at the positioning of the ‘managed money’ crowd. This includes players like hedge funds. These guys are a great proxy for investor sentiment. They’re always sniffing out momentum and trying to make ‘quick and easy gains’.
Back on 22 April, when the gold price was around US$1,270 an ounce, ‘managed money’ was net short nearly 34,000 contracts. This means they collectively bet that the gold price would fall. That’s why they were short.
According to the 2 September report, when the price peaked around US$1,550 an ounce, these geniuses were net long 231,500 contracts! That means they’re expecting further gains.
The latest report, which shows positioning on 21 October, has this group net long by 176,000 contracts. That’s obviously come back a lot. But it’s by no means bearish.
In other words, sentiment is still positive towards gold. This makes sense; it only recently broke out of a five-year bear market. But I’d like to see this net long position fall further before thinking the worst might be over.
That could happen via a price fall. Or it could happen via boredom. Futures represent a leveraged bet on the gold price. You don’t really want to hang around while prices move sideways. So traders could grow disinterested and close their positions while the gold price simply consolidates in a sideways pattern for a few months.
The final reason to expect gold to mark time before what I expect to be another move higher is a technical one. As you can see from the chart below, gold rallied to an important technical level (green line) in September.
This level acted as support in 2011 and 2012. But when prices broke down through support in 2013, it ushered in a long bear market.
To me, it looks like gold will have to correct and consolidate a little longer. It needs to build a stronger foundation before breaking through that important resistance level.
That may mean you see another correction in the weeks ahead. This will bring out the bears. The bulls will doubt themselves.
But try and ignore it if you can. Gold simply needs more time before making another move higher.
Editor, The Rum Rebellion
PS: Watch the full video interview with The Rum Rebellion’s Greg Canavan and Jim Rickards, US economist and gold expert. Click here to watch.