How to Understand Gold’s Mixed Signals

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Source: Thinkstock

Source: Thinkstock

Gold prices closed last week at just under $1,300/ounce. This has been a very important level psychologically, and as the market trades below it, the bears are becoming more confident in their position. Analysts from Goldman Sachs and Credit Suisse continue to assert their belief that the gold price is going to fall to $1,050/ounce or lower as the economy recovers and as investors sell out of gold in order to buy stocks.

This negativity, however, is extremely bullish. It wasn’t that long ago that the gold price was $400 – $500 per ounce higher and that analysts from these firms were claiming that the gold price would rise to $2,000/ounce, or even as high as $2,500/ounce. Investors need to be contrarian in order to be successful, and it seems more and more that the contrarian position is to be bullish of gold, not bearish. Thus, I think that while the near term pain may not be over in the gold market that there is far more upside potential than downside potential, and investors should consider buying.

Bears like to point to several factors for their position. The first is the recovering economy. They claim that this will push investors into stocks and out of gold. But investors, especially in the United States, hardly own any gold. It became a somewhat mainstream investment in 2010 and 2011, but that’s about it. If you pick up any literature on portfolio management it is likely to say that investors should hold a balance of stocks and bonds that is determined by the age of the investor — the older and more risk averse you are, the more bonds you should hold, and the younger and more aggressive you are, the more stocks you should hold. Some investment advisors will recommend a 5 percent – 10 percent gold position as an “insurance policy.” But despite the fact that gold has been an integral part of the Western monetary system for centuries it has virtually no role in the modern portfolio.

So, in short, there are no investors to sell gold in order to buy stocks. There are a few who were late to the party in 2010 – 2011, but that’s it. Those who held gold before then are people who have been in the market for many years who understand its monetary role and the fact that fiat currencies will lose value over time even if they haven’t lost value in the recent past.

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