Financial markets are living on a knife’s edge.
In the months ahead, the world is facing an unprecedented financial meltdown. Europe’s banking system is already in turmoil, and should melt down. When one bank goes under, it will have a domino effect and the rest should follow. When this happens, a global contagion should unfold. Trillions of dollars of savings will be lost worldwide.
While this isn’t good news, the banking crisis is just the pre-show.
It will get far worse….
The main event is the sovereign debt crisis, when global governments will start defaulting on their bonds.
Punters might not see the crisis coming but, they can feel something is wrong. It’s why gold is trading at US$1,368.45 per ounce today. The question is, will the yellow metal surge into the storm?
I still have my doubts…
History’s a good roadmap for the future
To start, do you remember the Global Financial Crisis of 2008/09?
Something that sticks out in my mind was gold and gold stocks. When plenty of ‘experts’ were calling for the next Great Depression, they crashed. I was shocked, wondering how these ‘experts’ could be wrong!
How about last year?
Do you remember when Greece looked set to default on its national debt? While some punters had their doubts, and others (like myself) thought it would default, gold collapsed during the uncertainty.
It’s nothing new. See, gold has rarely rallied during any major financial crisis in history.
Actually, I take that back…
Gold increased slightly heading into the sovereign debt crisis of 1931–33. But at the time the world was on a gold standard — money was gold. If you didn’t like holding cash, you could exchange it for gold. Currencies across the world were pegged to bullion. Plus, the gold price remained at a fixed price until 1971 (i.e. it didn’t fluctuate in nominal terms like it can today). You can see this in the chart below.
[Click to enlarge]
Today, there is no gold standard. Gold isn’t money. You can’t buy bread at the supermarket using gold. Gold — like stocks, commodities, property and agriculture — is an asset. It’s merely a store of wealth.
History shows that gold crashes during nearly every financial crisis when it is both an asset, and not fixed in price. Remember, gold only survived the great depression because it was both ‘money’ and ‘fixed in price’.
Gold crashed by 50% during the OPEC crisis of 1974–76. At this time, there was a steep recession, with the stock market crashing by 40%. Gold declined after the 1980 high for 19 straight years.
When gold peaked in 1980, stocks, real estate, silver and commodities were booming across the board — not just gold. There was a massive inflationary boom in the late 70s.
And heading into the 1999 tech bubble, gold crashed again. Finally, as I pointed out above, gold fell by 40% during the 2008/09 financial meltdown. Remember, this was a time when gold bugs were calling for the ‘next great depression’.
Of course, this time could be different, right?
Maybe. After all, there has to be a first time for everything.
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The trend is your friend, until it ends
Whatever we think will happen, the tape will unveil the true story for gold. For this reason, check out the monthly chart on gold below.
Source: Resource Speculator
[Click to enlarge]
The monthly chart shows you the main trend. You don’t see that week to week volatility.
At the moment, things are looking good for the precious metal. Gold appears to be on the cusp of a major breakout.
Yes, you read that correctly.
The yellow metal surged above the Brexit high of US$1,360 per ounce last week. That’s a big deal. The breakout lines up with the five-year down trend, which has acted as major resistance dating back to 2011. This is shown by the blue line.
While it sounds promising, I wouldn’t get too excited yet. So far, it’s merely an intra-month breakout. To suggest the bear market’s over, gold must close above the Brexit high of US$1,360 per ounce on 31 July. That would officially signal a breakthrough of resistance.
The US payrolls number tonight will be important for gold’s next move. Reuters reported:
‘According to a Reuters survey, payrolls likely increased 175,000 last month. Employment increased by only 38,000 jobs in May, the smallest gain since September 2010.
‘The unemployment rate is forecast rising to 4.8 percent in June from an 8-1/2-year low of 4.7 percent in May.
‘May’s weak job gains and the pending Brexit referendum prompted the Federal Reserve to keep interest rates unchanged last month. Even if payrolls rebound in June, economists say the stunning Brexit vote made it unlikely that the U.S. central bank would hike rates before the end of the year.’
I disagree that the Fed won’t raise rates before year’s end. While its credibility is in tatters, the US Fed — and the market — are watching this jobs number closely. If it’s stronger than 175,000, expectations will rise that the Fed could raise rates. That could attract more capital into the US dollar and, with a more hawkish view, send gold crashing below US$1,360 per ounce. That’s not what gold bugs want, come month’s end.
Of course, if the payrolls number is a flop, gold should keep surging. That could signal a month end closing above the major resistance level.
Before forming a conclusion, consider that there’s more to the story…
More to the story
The European banking crisis is gaining a lot more mainstream attention. This is causing significant uncertainty, which is why gold’s surging. The Financial Times reported last week:
‘Italian bank stocks have continued to oscillate today, with some edging higher, some nursing losses, Monte dei Paschi swinging wildly, and, if you’d forgotten, all of them down about 50 per cent or more so far this year.
‘The Italian banking sector is in desperate need of a rescue package, which has become even more urgent since the UK’s vote to leave the EU pushed equity and bond prices even lower, driving even more private capital out of the sector. But a tense political standoff between Italian Prime Minister Matteo Renzi and Brussels means progress on any rescue package is not very forthcoming.’
This is going to end in a bloodbath. But when?
If the Italian banking sector gets bailed out, which would purely be a political move, gold could crash. The risk would be off the table.
Alternatively, when reviewing the Global Financial Crisis, before collapsing, gold rallied into March 2008. In March 2008, the Federal Reserve Bank of New York provided an emergency loan to try to avert a sudden collapse of Bear Sterns.
Bear Sterns, a major investment bank, couldn’t be saved. The entire financial system collapsed during the months following, and so did gold. Perhaps, if history is a guide, it may take a bank collapse to see gold plunge? That would classify a ‘buy on the rumour’, and ‘sell on the news’ type event.
With plenty of arguments stacked against the yellow metal, I won’t be surprised if the trend flips shortly and gold heads towards the pink support level. A monthly closing below that level should indicate that gold could drop fast and hard. My target of US$931 per ounce — a technical support level lining up with the green trend line — still stands today.
When resource and gold stocks start to crash harder, I’ll strategically recommend the best of the lot. Being a contrarian resources investment newsletter, with a strong top-down approach, Resource Speculator readers should make massive profits in the years ahead.
While we wait to pick up the best resource stocks for scraps in the dollar, your best bet is sticking to speculative stocks. Remember, speculative stocks can make you huge gains despite market conditions.
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For Markets and Money
Editor’s Note: This article was originally published in Money Morning.