Have Gold Prices Peaked?

In case you were asleep, last week saw gold break all records and almost closed at $900/Oz. I still think its a good time to buy for long term investors. Lets see what other investment advisers think.

According to Merill Lynch, we’re already in a recession and according to Richard Russell of the Dow Letters, we’re entering a bear market.

The operative thesis for investors at this time is that the primary trend has turned down. A bear market is in progress. What does this mean? I’ve outlined this many times before, but here goes again – the position I favor here is cash and gold, a lot of gold. You can buy GLD, you can buy gold coins, and you can also buy GDX, which represents a list of gold mining shares. The important thing is to have a good position in all things golden.

I don’t know how far this bear market is fated to carry. Nor do I know how long it will last. My advice – be prepared for the worst and hope for the best. To hope costs you nothing, but to be unprepared can cost you much, maybe more than you can imagine at what probably is this early phase of the bear market.

Through over half a century of experience, I’ve learned to respect bear markets. I don’t trade them, I don’t fade them, I don’t short them – I stay out of them. I’ve learned to stay on the sidelines.

According to the Financial Times, Gold is the new global currency.

There was a time when gold was money. In today’s uncertain world, the yellow metal is back in fashion. Bullion prices rose to a record nominal high after the assassination of Benazir Bhutto in Pakistan added to nervousness about the world economy. Part of gold’s allure is its traditional status as a safe haven. It is seen as a store of value when everything else seems risky. But the bigger drivers behind the rising spot price are a depreciating dollar and the prospect of negative US real interest rates.

A better way to think of gold may be as central bankers used to before America dropped the gold standard: not as a commodity, but as another currency. As long as the dollar stays weak, gold’s bull run will last.

The arguments for further gains in the gold price are compelling. It looks cheap, despite climbing from a low of about $250 a troy ounce in 1999, when central banks were selling reserves. The UK’s decision back then to sell 60 per cent of its official holdings looks particularly poor judgment.

Gold is benefiting from diversification away from equities. Commodities have emerged as a distinct asset class, with billions of dollars poured into exchange traded funds. Physical demand for jewellery may have stalled in Asia, but consumption remains strong in the Middle East. Declining output in South Africa will help support spot prices.

But it is the relationship between the dollar and the reaction of the world’s central banks to the credit squeeze that some bulls would say really makes gold an attractive bet. The US Federal Reserve’s aggressive, rate-cutting response to the credit squeeze has created a risk of a sharp rise in American inflation. That in turn creates the risk of a precipitous fall in the dollar and so makes gold more attractive as a hedge.

The world’s major economies have experienced rapid money supply growth of 10 per cent plus per annum in recent years. The Fed remains the world’s biggest holder of gold, yet supplies of the metal are no longer growing annually. If gold is a finite currency, its value against not just the dollar, but sterling and the euro too, should rise.

Moreover, a sharp decline in US real interest rates – financial markets expect another half percentage point cut this month – means that the low yield on gold matters less. It may have been a poor hedge against inflation in the past but the combination of rising consumer prices and economic stagnation may make it a better store of value.

GaveKal also thinks its an ideal environment to own gold.

Gold has been an exceptional play, having risen +36% since mid-August. Of course, this marks the period in which the credit crunch drove the Fed to cut its discount rate, join the ECB in a series of liquidity injections, and begin stepping down the Fed Funds rate. However, these were not the only factors at play. The past six months has provided the ideal environment for gold:

1. Demand from Asia was on the rise;
2. Demand from the Middle East was also on the rise;
3. Real rates around the globe were fairly low;
4. And then came the credit crunch and the housing bust; and
5. Fears of currency debasement have escalated.

“Indeed, when it seems like things cannot get any better, they often do not. And, for example, if China were to really liberalize its capital markets, gold prices could lose a lot of steam. However, until something significant knocks off this surge in demand, it is hard to see gold retreating.

And Richard Russel believes gold is still a bargain.

What can I buy today at 1979-1980 prices? Russell, you’ve got to be kidding. Everything is much more expensive today. Forget those prices of 1979-1980. Get into reality, man.

Wait, there is one thing that I can buy today at around 1979-1980 prices. That one thing is gold. Gold today is selling just a bit higher than it sold for back in January 1980. How can that be? Brother, it be. Today you can buy gold for just a few percentages more than gold sold for at its high in January 1980.

‘Hey Russell, does that mean that gold is a bargain?’ My answer is that I don’t think of gold in terms of it being bargain-priced, I simply think of it as real money that is catching up to the times. I can’t buy the Dow at its 1980 price of 850. Hardly, the Dow is selling at 14 times its 1980 prices. Well then, how is it that gold is still under 900? That’s a long story, but let’s just say that I really don’t know. I do know that gold is underpriced compared with almost anything else. So yeah, when I think about it, yes, gold is a bargain. And I like bargains – particularly when the bargain happens to be real money.

I’m sticking to my belief that gold will break $2,500 in this cycle and probably reach $3,500. But its going to be a volatile ride over the next few years.

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