Three Reasons Why Gold Isn’t Behaving Like Gold Right Now

July 26, 2015

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By Frank Holmes. Originally published at ValueWalk.

Three Reasons Why Gold Isn’t Behaving Like Gold Right Now by Frank Holmes

As many of you know, I was in San Francisco last week where I had been invited to speak at the MoneyShow, one of the biggest, most preeminent investor conferences in the world. Over the past couple of decades I’ve spoken at many MoneyShows, all around the country. I’ve covered many different topics through the years and gold investing is one that often draws a big crowd. Not this year. Guess which natural resource stole the show?

Another commodity was attracting attendees’ attention, one that until pretty recently could only be grown and harvested under the shroud of secrecy. Marijuana. Currently legal in 23 states and the District of Columbia, Medical Marijuana Inc (OTCMKTS:MJNA) generated $2.7 billion in 2014 and is expected to bring in $3.4 billion this year. Investors are taking notice. The cash crop is even starting to change intranational migration. Whereas many retired seniors flock to warmer climates in which to live out their golden years, others now factor in whether a state will permit them to self-medicate in order to treat their arthritis, according to a recent Time article.

Investors themselves who might have suffered from arthritis attended the pot presentation at their own risk, as it was standing room only. They couldn’t have been pulled away even to sit comfortably in the scarcely occupied room next door. Sentiment toward gold was indeed very bearish at the MoneyShow, as it is around the world right now.

Gold Hits the Reset Button

Gold is universally recognized as a safe-haven investment, a go-to asset class when others look uncertain. Following the 2008 financial crisis, for instance, the metal’s price surged, eventually topping out at $1,900 per ounce in August 2011.

But this week has been a particularly rocky one for the metal, even with Greece and Puerto Rico’s debt dilemmas, not to mention the recent Shanghai stock market decline, fresh in investors’ minds. Gold has traded down for 10 straight sessions to end the week at $1,099 per ounce, its lowest point in more than five years. Commodities in general have dropped to a 13-year low.

Gold stocks, as expressed by the XAU, have also tumbled.

The selloff was given a huge push last Friday when China, for the first time in six years, revealed the amount of gold its central bank holds. Although the number jumped nearly 60 percent since 2009 to 1,658 tonnes, markets were underwhelmed, as they had expected to see double the amount.

Then in the early hours on Monday, gold experienced a “mini flash-crash” after five tonnes appeared on the Asian market. Initially this might not sound like a lot, but five tonnes equates to 176,370 ounces, or about $2.7 billion. It also represents about a fifth of a normal day’s trading volume. Suffice it to say, price discovery was effectively disrupted. In a matter of seconds, gold fell 4 percent before bouncing back somewhat.

Reflecting on the trading session, widely-respected market analyst Keith Fitz-Gerald noted: “Far from being a one-day crash, this could represent one of the best gold-buying opportunities of the year.”

The last time the metal descended this quickly was 18 months ago, on January 6, 2014, when someone brought a massive gold sell order on the market before retracting it in a high-frequency trading tactic called “quote stuffing.” Last month I shared with you that we now know who might have been responsible for the action—and many others that preceded it—and pointed out that the accused party’s penalty of $200,000 was grossly inadequate. On Monday I told Daniela Cambone during this week’s Gold Game Film that such downward price manipulation seems to result in little more than a slap on the wrist. But if manipulation is done on the upside, traders could get into serious trouble.

Besides apparent price manipulation, other factors are affecting gold’s behavior right now, three in particular.

Strong U.S. Dollar

Like crude oil, gold around the world is priced in U.S. dollars. This means that when the greenback gains in strength, the yellow metal becomes more expensive for overseas buyers. With the U.S. economy on the mend after the recession, the dollar index remains steady at a 12-year high.

It’s important to recognize, though, that gold is still strong in other world currencies, including the Canadian dollar. As such, our precious metals funds have hedged Canadian dollar exposure for Canadian gold stocks, which has benefited our overall performance.

Interest Rates on the Rise?

Federal Reserve Chair Janet Yellen continues to hint that interest rates might be hiked sometime this year, perhaps even as early as September. When rates move higher, non-yielding assets such as gold often take a hit.

As you can see, the 10-year Treasury bond yield and gold have an inverse relationship. When the yield starts to rise, investors might find bonds a more attractive asset class.