October 2009 has developed into a truly glorious month. For the first time in history the average monthly price for US$Gold will exceed $1,000. Certainly all are celebrating such a wonderful event. Perhaps the most important aspect of this remarkable event is that the purveyors of price suppression and manipulation theories can now turn off the lights in their caves. Reality has crushed their misconceptions. If an $800 bull market is price suppression, give me some more!
In the first chart above is plotted the average monthly price of $Gold for the past twenty years. And yes, it is a wonderful picture. If one had bought $Gold any time in the past twenty years those purchases show a profit. Price suppression is indeed a wonderful thing. But aside from that realization, we note that with the breakout of the monthly average $Gold is moving into Wave V of an Elliot Wave framework. Those blue dots highlight the count for that Elliot Wave framework with the last dot marking the end of Wave IV. But note, they are waves not straight lines.
The most glorious aspect of this breakout is the spawning of all sorts of fantasy calculations. The move of $Gold to a new high for some reason has revealed until now hidden relationships that justify any number for the future price of $Gold. These till now undiscovered relationships are allowing the creation of forecasts for Gold of more than $5,000, and even some in $6,000 range. Such forecasts can be verified by multiplying the price of $Gold on your birthday by the ratio of the length of your femur to the length of your largest toe.
As Gold moves into Wave V, The Gullible And The Amateurish perhaps need to be more cautious, for now is the time when theories and forecasts are truly tested. When hedge fund managers are expounding on the demise of the U.S. dollar and the merits of owning Gold, we are no longer Gold Bugs. We are now mainstream investing. Remember, that as momentum followers hedge funds come into markets in the second half, never in the first quarter.
However, we do have a big swinging hammer on our side. The Federal Reserve will do all it can to make our forecasts for the future Gold price to become reality. Much talk has been wasted by the agents of the Federal Reserve, and their groupies, on the topic of reversing the liquidity injections that have been made. However, rather than dwelling on these nonsensical musings, we should look to what the Federal Reserve is actually doing. What they do, not what they say, is the important matter.
In our second chart is plotted, with blue dots using the left axis, Federal Reserve credit. That is essentially the assets of the Federal Reserve. It is the monetary base from which the money supply is created. The circle in that chart highlights the most recent monetary footprints of the Federal Reserve. In the past few weeks the Federal Reserve has injected about $300 billion of reserves into the U.S. banking system. In the latest week alone, that injection was about $100 billion.
Little wonder that the U.S. dollar lost value during such a period of hyper injection of dollars into the system. While we can clearly observe a breakout in Federal Reserve credit in that chart, it does leave us in an uncomfortable position. What will the Federal Reserve do next? We know what they did yesterday, but we need to know what they will do tomorrow.
The Federal Reserve may talk about reversing the liquidity injection, but can they really do so? Can they withdraw liquidity from the U.S. banking system without an adverse impact on the U.S. economy? Will they withdraw liquidity, risking an adverse impact on the U.S. economy, while the failing Obama Regime is experiencing a collapse in the polls? Will they risk hurting the U.S. economy with Congressional elections twelve months away?
We suspect that rather than risking their jobs, and the jobs of the politicians that gave them their jobs, those at the Federal Reserve will not opt to remove that liquidity. Talk of being sober tomorrow is always easiest today. Tomorrow is when the difficulty arises. All of this means that the massive injection of liquidity into the U.S. banking system will not be reversed, and that the Federal Reserve will simply compound the error in the future by adding more reserves over time. In short, as long as these people run the Federal Reserve, the long-term case for $Gold is secure.
What about the short-term outlook for $Gold? Still troublesome is the red line in that last chart. That line represents the year-to-year percentage change in the size of Federal Reserve credit. The declining trend in that line indicates that Federal Reserve credit is growing at a slower rate. While the dollars being injected are large in absolute terms, in percentage terms the increments are getting smaller. That development when combined with an extremely over sold condition of the U.S. dollar suggests that further immediate weakness in the value of the U.S. dollar is unlikely.
With dollar creation on the part of the Federal Reserve unlikely to be as aggressive as it has been in recent weeks, selling of U.S. dollars may abate. Such action could put short-term pressure on $Gold. U.S. dollar based investors might defer buying until a period develops without rabid trading of futures on Gold, forecasts of $5,000 abounding, and hedge fund managers bragging about their Gold positions. U.S. dollar based investors should hold their Gold, and wait for lower prices to buy.
Investors not denominated in dollars may find themselves in a far different situation. Gold in Canadian dollars and EU Euros appears to be in the early stages of breaking out to the upside. Any price weakness in Gold denominated in those currency that develops from their current short-term over bought condition should be used for buying. British investors are experiencing Gold in their own little world. The Gold price of the British pound has collapsed as the world appears to be abandoning any hope for the pound in the long-term. British investors should hold their Gold, and add to positions on any and all price weakness. Gold serves each currency in a customized manner. In reality, many Gold markets exist. Pay the most attention to that which serves you.
GOLD THOUGHTS come from Ned W. Schmidt,CFA,CEBS as part of a joyous mission to save investors from the financial abyss of paper assets. He is publisher of The Value View Gold Report, monthly, and Trading Thoughts, weekly. To receive these reports, go to http://home.att.net/~nwschmidt/Order_Gold_GETVVGR.html.