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A Confidence Trick

By Jon Nadler       Printer Friendly Version Bookmark and Share
May 26 2009 4:07PM

Good Afternoon,

Sharply rising consumer confidence numbers were a boon for at least the stock market on this, the Tuesday after Memorial Day. At the end of the day, such figures may have also helped gold recover from the $940s, seen overnight. US consumers exhibited the highest level of optimism about their country's economy in some six years. Mr. and Mrs. American Consumer said: "The heck with rising (it still is) unemployment and falling (they still are) home prices!" and they willingly shared all kinds of near-term plans to buy cars and major appliances with those who asked for their opinion. The last days of Rome? Something else?

Okay, so, have Americans had enough of the doom and gloom that has permeated their lives since late 2006? Are they overly eager to resume shopping while the Empire burns? Are they fully out of sync? Several recent news reports indicate that some average, six-figure-earning, McMansion-dwelling American yuppies are now known to be loading up on freeze-dried food, water purification implements, weapons, gold coins, and boatloads of cash, in an expectation that the "American Dream" and its support systems will come crashing down harder than the Hindenburg. Try to get them to admit such behavior and paranoia, however. Good luck. Not a job for your average interviewer. Unless they work at Gitmo.

We opine that the newly-minted Land Rover-wielding urban survivalists are the ones who are disconnected, and need a reality check that is tantamount to moving. Fast. Offshore. Without the Rangie. Then again, switching political parties might just do the trick for them as well. Some of this new-found "TEOTWAWKI angst" is apparently a simple case of latent sour grapes, and unwillingness to go along with anything their current government proposes on behalf of the greater good. Been there, done that, for different reasons. Remember Y2K. Better yet, remember Y2K+1.

Along with rising consumer confidence numbers, the NASDAQ erased its losses for the year, the S&P went positive on the year -and the commodity component of such indices was very much in evidence today. In fact, while gold prices initially backed away from the mid $950s early this morning, the market was able to recover most of such declines by the afternoon hours. Once again, the commodity component of gold took over in the price equation for the day.

Many an analyst is far from convinced that the latest commodity (esp. oil) rally has anything but surgically enhanced legs carrying it forth. If you subscribe to the diagnosis that the stock market is about to offer a nasty pre-fall surprise, you must also entertain the possibility that the commodities rally has been a head-fake as well.

Following yet another display of missile-based military machismo by N. Korea, (coming just one day after an underground nuke test, and on Memorial Day, no less!) the US dollar regained its attractiveness as a safe haven and rose substantially in the overnight hours. Normally, gold would react in a positive fashion to such geopolitical fireworks.

The world's political and market scenes have been anything but normal of late, however. Global response to the latest N. Korean antics (seen as a case of the last desperate and overacted kicks of Kim Jong Il's regime) was pretty unanimous: "Stop it." Even China and Russia wagged warning fingers towards Pyongyang - but that's a long way from going along with the calls for immediate/stronger sanctions against the chest-pounding little rogue nation.

Oil prices initially fell back towards $60 following reports that the Saudi oil Minister sees little reason to alter the cartel's output with global inventories being where they are; still too high. However, following the sparkly numbers from the consumer sector, black gold resumed its climb to higher levels and was last seen near $62.35 per barrel. It, and an easing in the dollar's intra-day gains helped minimize gold's losses from $15 to but $5 by the afternoon hours. Bullion fell to very near $940 in the wake of the aforementioned display of dollar resilience, but the yellow metal appeared to draw reasonable support at the lower levels.

Some market gurus and direct participants have pointed to the first (in two months) addition of gold to the ETF's holdings as a sign that a renaissance might me taking place in the market. Such a gain in bars in storage was not able to prevent a price slippage the last time around, in March, however, wrote market analyst Tim Iacono.

New York spot gold prices continued the first session of this truncated week with only a $5 drop by the late afternoon, quoted at $952.30 per ounce. Silver also more than halved its losses and fell 13 cents to $14.57 per ounce, while platinum dropped $20 to $1133 amid fund profit-taking and GM bankruptcy-related jitters. When the actual filing happens, these markets may not give it a second glance. The news is that shopworn. Palladium lost $3 and traded at $230 per ounce. News from Russia is that the country's gold output rose 38% in the period of from January to April. South Africa fell into recession mode, for the first time since 2002.

For those of you obsessing about gold's numbers, we have plenty of same on tap this morning. Two more banks lifted their forecasts for the gold over the long weekend. The first, Australia's Commonwealth Bank pegged the end-2009 price for gold at or near $925 per ounce, but saw waning interest in the metal as a safe-haven play over the next year-and-a-half. The bank foresees a gold price nearer to an $850 average level by the end of next year. External price pressures are seen as a virtual match for periods of safe-haven demand yet to materialize in the metal.

The other, Standard Bank, basing its input on technical trading patterns, and its interpretation of same, pegged a top in the gold price at $1,250 per ounce, as a head & shoulders pattern eventually unfolds. Where the right shoulder and subsequent lower targets are to be found, we have not been advised. As is often the case with price-specific targets, no timeframe was outlined for such an achievement.

As we see it, and given the current macro environment, we may have even odds of a 30% gain/loss in gold from current values. That is, if risk/reward is what concerns you most. Also, if you see the nearly $907 year-to-date average gold price as some kind of pivot point and not the added-premium proposition India has been alluding to since the year began. Theses upside targets are (still) dependent on a long list of 'ifs' and 'whens' whereas the dangers of lower prices are already baked into this deflationary-flavored cake and a largely distorted (from a fundamentals standpoint) gold market.

As has become customary, we feel it is imperative to reiterate the wisdom (indeed, the necessity) of the maintenance of one's core gold holdings, while warning about the perils of chasing 'guaranteed' and/or perpetual mega-returns from a market that was never intended to be of such orientation. Or, as 'they' say, be careful what you wish for.

Amid all of the decibel-busting hosannas now being heard in the perma-bullish and (most of all) Radical Extremist Gold Bug camps, Marketwatch's Mark Hulbert once again finds that there are enough contrarian indicators to warrant some caution:

"Bullishness in the gold arena is at a three-month high.

That might not seem particularly surprising or noteworthy, given gold's impressive strength late last week. In Friday's trading alone, for example, it rose by more than $20 an ounce. Nevertheless, there is sufficiently high bullish sentiment to cause contrarians to be concerned.

The last time gold timers were more bullish than they are today came in late February, when gold bullion was trading at almost the same price as now. Bullion proceeded to fall by more than $100 per ounce over the subsequent six weeks -- before recovering nicely in recent sessions.

Consider the Hulbert Gold Newsletter Sentiment Index (HGNSI), which reflects the average recommended gold market exposure among a subset of short-term gold market timers tracked by the Hulbert Financial Digest. As of the end of last week, the HGNSI stood at 43.5%. This level is still well short of HGNSI's record high of 89.6%. But it is higher than where it would need to be for sentiment to provide strong contrarian support for gold's rally.

Consider all those occasions since 1985 in which the HGNSI has been at or close to where it is today. (Specifically, I looked at instances in which this sentiment index was between 40% and 45%.) On average, over the month following those occasions, gold bullion fell by 0.6%. That contrasts to an average gain of 1.3% following all those occasions when the HGNSI was below 40%.

A similar contrast exists over a three-month time frame as well. On average, over the quarter following occasions in which the HGNSI was between 40% and 45%, bullion fell an average of 2.3%. Over the quarter following occasions in which the HGNSI was below 40%, in contrast, bullion rose an average of 3.7%.

Of course, as I have emphasized on past occasions when I have devoted a column to the HGNSI, sentiment is not the only thing that influences the gold market. So my assertion that sentiment is an important variable is not in any way to deny that those other factors may also play a role.

But my econometric tests show that there is a statistically significant inverse correlation between the HGNSI and gold's subsequent direction. And even though the HGNSI is not so high as to trigger the most bearish of contrarian forecasts, it still is high enough to flash a warning sign on the sustainability of gold's recent rally.

Furthermore, as I also have stressed, sentiment is at most a short-term trading tool. Its strongest forecasting power exists over the subsequent one to three months. It tells us nothing about the long-term trend. So, gold may very well be headed to much, much higher levels in coming years, as many of the newsletter editors I monitor are currently asserting. But, if contrarian analysis is right, then bullion is likely to trade at lower levels first."

To most of the folks we normally talk to on a daily basis, the numbers to watch are not the minute-by-minute gold price tickers, but the results of the calculations which compute the percentage of gold that is present in their portfolios as time goes by.

In the interim, happy crystal-ball gazing. And odds-computation fun.

Jon Nadler
Senior Analyst
Kitco Bullion Dealers Montreal



Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in precious metal products, commodities, securities or other financial instruments. Kitco Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.