Our gold price forecast 2013
Gold is and has definitely been one of the hottest and most watched commodities of the past 5 years. Since late 2007 gold has stolen much of the limelight after breaking the 1980 record high of approximately $850 an ounce and running well past $1,000 an ounce today.
Many a gold bull-market spruiker’s status was elevated to a new level over the past few years. And many a disciple was delivered to blindly follow these new market predicting prophets. They had called it! And chances are they are still calling it, just like they were back in the 80’s and 90’s. A time when gold remained bearish or stagnant for a good 20 years and being long would have been a complete waste of time and money.
So let’s look at the gold market, what has happened in the past and where it could potential head next year. We believe that gold is in for a big move either up or down. With events in the US and Europe playing out, we are waiting for signals one way or the other. Here’s the thing – successful trading is not about predicting what is going to happen – it is about responding to what is happening. Let’s look at the history and arguments for both.
The 1980 gold price of $850 an ounce would equate to inflation adjusted gold of $2,500 today, so that seems like a decent target if prices do rise. So if gold does go up $2,500 will be my target.
In the year 1970 America’s economy had lost steam of the post World War 2 super-boom seen in the 50’s and 60’s. The US economy was suffering with trade deficits from increased domestic spending and the costs of the Vietnam War (sound similar to the US now?). Unemployment was also rising and inflation was over 5%.
At this time US dollars were based on a gold standard and international currencies were pegged to US dollars based on this provision that US dollars were redeemable for gold at $35 an ounce. This was known as the Bretton Woods system, introduced post WW2.
Due to increased government spending the US money supply started to grow, however, the gold reserves didn’t. Because the US had to devalue the US dollar in relation to the supply of gold any currencies pegged within the Bretton Woods system would also be devalued in gold terms. This led to major European nations redeeming gold from their USD reserves and abandoning the Bretton Woods system. This also forced the US to abandon Bretton Woods gold standard. Since 1971 the USD has been without a gold standard.
This essentially opened the flood gates on the US being able to print as much money as they saw fit and aggressively increasing capital flows into the economy. Inflation ran rampant throughout the 70’s as bond markets expanded and by 1980 gold had run from US$35 an ounce when pegged to US$850 an ounce unpegged.
This is a key argument for gold bulls and often a gold bull will declare “today’s money is worth nothing, it’s just paper”. Let’s have a look at some other forms of paper which would therefore hold no value; marriage certificates, title deeds, vehicle registration forms, birth certificates, passports, bond certificates. Obviously this is not the case because we put value on this paper and so long as the paper is controlled and can purchase goods it is worth something.
Another key argument against the gold standard at any price is that the world has grown beyond the constraints of a gold standard because the global capital supply has needed to increase faster than the gold supply.
Because the world has been without a gold standard for 40 years there is one key question – Will the free flowing capital bubble finally pop? The key signal will be inflation running rampant. US inflation data would suggest it hasn’t yet.
Currently inflation is not an issue in Western Nations. If anything the potential of deflation is. So let’s look at two deflationary economies, Japan and the 1930’s Great Depression USA.
In the 1930’s US unemployment reached estimated levels of 25%, personal income and tax revenues fell, prices for many commodities dropped by 60% and international trade dropped 50%. Notable monetary policy which takes some credit as a cause of the depression was a contraction of the US money supply by the Federal Reserve and Britain’s decision to return to a pre-World War 1 gold standard also contracting capital supply.
Many nations’ currencies did devalue in gold terms during the 1930s. This was due to, much like the US in 1971, countries abandoning the gold standard as an influx of holders of pounds and dollars began cashing out of paper currency for bullion.
Today the Federal Reserve is keeping the money flowing with no plans to return to a gold standard. Unemployment & underemployment in the US is high however commodity prices and international trade has remained moderately stable, more than likely thanks to growth in the Eastern Hemisphere.
So today’s scenario does sound pretty bullish. However, in the 1930’s gold appreciated but gold was the global reserve currency, now the USD is. The initial shock of abandoning a gold standard won’t be felt today as there is no gold standard. And in gold terms the USD has already been depreciating for the past ten years as capital supplies have increased. A plausible argument could also be made that the 20th century saw a global decoupling from the gold standard, so gold’s role in this environment will not remain the same.
What appears to be a real threat in sending the US into a deflationary scenario similar to the depression or Japan is the Fiscal Cliff. Due to current debt levels the US may need to raise interest rates to attract foreign investment into their treasury markets, particularly if the dollar weakens. This would be monetary tightening and would slow the current flow of capital. In order to avoid monetary tightening the US needs to introduce new taxes and spending cuts, which would again decrease the domestic money supply. Both scenarios are deflationary.
Looking to Japan which has been a deflationary environment over the past twenty years Japan has three key similarities to the US. Firstly they have a high debt to GDP ratio. Secondly they have been proactively flooding the Japanese market with liquidity known as quantitative easing (QE). Thirdly, as per our article on Japan, they have an aging population. All three of these factors are further progressed in Japan than they are in the West, so it can be considered a decent precedent.
After an initial market crash in both the Great Depression and Japan in the late 80’s both of these markets were stabilised for 3 or 4 years as the capital flows were increased and the currencies devalued by the powers at be. However, this monetary policy stabilised currencies for only a few years before the deflationary decline continued.
In Japan the yen has continued to appreciate aggressively during these 20 years of deflation. We have seen the US market stabilised since the 2008 crash through increasing capital flows through its own QE efforts however, as mentioned, this could start to dry up and the effects of this policy lessen.
An aging population could also be seen as deflationary as there is not the growth seen through an increase in population, which in Western nations had been seen consistently until the baby boomers generation.
When the market crashed in 2008 and liquidity was sucked out of the market and gold prices dropped from $1,000 an ounce to $680 which is a 32% decline. $680 was also a key consolidation level for gold prior to running to $1,000 an ounce. A similar sell off next year could lead to gold falling to approximately $1,200 an ounce, if we do see a global contraction of capital flow and continued deflation. Although, similar to $680 over the long-long-term $1,200 an ounce would definitely be a key accumulation point to get long.
So to take a stand and pick a direction, purely because contrarians are remembered, I will go out on a limb and say $1,200 an ounce here we come! I would tackle the trade by selling under last year’s key support levels of $1,520 booking profits at $1,250 and swinging the position to get long. But just in case would also look to buy if prices move above a $1,800 with a price target of $2,500.