Why the Gold Price is Falling

July 20 2015

I mentioned earlier why I, despite everything, was expecting an agreement with Greece, which would pull down price of gold. This week it became reality and the gold price fell to $1,130/oz, while the euro dropped to a seven-week low of US$1.08. Several voices are asking: “Now that a Grexit has been avoided, what can still lead to higher gold prices?” But that’s not how the market works! We are nearing a bottom in dollar denominated gold prices. The decline will end.

We Tend to Think in (And Make Up) Triggers

Often the price of an investment, like gold, rises or falls without us having any clue about the underlying motives of the people that decided to buy or sell that day.

And yet, we long for explanations. Most of us prefer self-deception and the 'illusion of knowing' over accepting and admitting our ignorance.

Every week, we are confronted with the results of this tendency. In the morning the euro/dollar could be up, and the press reports: “after having avoided a Grexit, investors start trusting the euro again.” Only two hours later we find that, without any further news, the euro/dollar has fallen. The headline is then changed to: “after avoiding a Grexit, the attentions of investors shift their attention to the US interest rate hikes.”

And this is just one of the thousands of examples I could have cited.

In essence, the press is just trying to guess the motives behind the decisions that thousands of investors make. It’s very well possible that these investors had completely different motives to buy or sell than those cited by the press. But our desire to have an explanation for everything that occurs stimulates us to make up triggers and to indulge in them.

There Are Plenty of Reasons to Buy Gold

Grexit or no Grexit; that was the question. Now that we know the answer is no, there is no further reason to hold gold, right? There is: (1) no inflation, (2) no crisis, and (3) the economy is recovering. Right?

Wrong! That’s not how the markets work.

If everyone is swaying towards one side, it pays off to move to the other.

Or in other words, the sentiment for gold is currently so negative, that any positive lead — and I repeat, any lead — will result in a higher gold price after it bottoms.

Nonetheless, the reasons for you to invest in gold are still as strong as ever:

  • Global indebtedness has only increased, not decreased. This means we can expect debt restructuring in the future.
  • The worldwide zero percent interest rates or 'ZIRP' (zero interest rate policy) in jargon.

These two factors are related to one another. The massive indebtedness is unsustainable without a worldwide zero interest rate policy. If not for this gigantic indebtedness, central banks would have no reason to adopt or maintain a zero percent interest rate policy.

As I have often shown during presentations, this is good enough a reason to invest in gold. The specific trigger (well, according to the media) of the unavoidable future debt crisis is completely irrelevant. 

Earlier, I wrote about how recessions are caused by our monetary system. The subprime mortgages were only a 'trigger' of something that was unavoidable; the 2008 recession. The trigger could have easily been tulip bulbs or internet stocks.

Whether the trigger of a rising gold price is a Grexit, a (Chinese) crashing stock market, or the newest Disney movie; it doesn’t matter. This is exactly what makes investing exciting. It forces us to focus on what matters most, and to ignore all other noise.

Nassim Taleb — author of, amongst others, 'Antifragile' — was completely right by saying: “If you have more than one reason to do something (choose a doctor or veterinarian, hire a gardener or an employee, marry a person, go on a trip), just don’t do it. It does not mean that one reason is better than two, just that by invoking more than one reason you are trying to convince yourself to do something. Obvious decisions (robust to error) require no more than a single reason.”

And even if the problems with Greece had never occurred, even then, given the current circumstances, gold would be an excellent and promising investment.

As I have said many times, I expect the gold price to decline below the $1,100/oz threshold. How long will it keep dropping? I don’t know, but I speculate that it will keep falling to somewhere between $1,000 and $1,100/oz. But I personally will not wait until a drop to $1,000/oz to buy gold.

We Are Heading Towards a Huge Crisis in the Bond Market

In this era of 'central banks omnipotence', no one seems to doubt the expertise that Jannet Yellen and co. have. Yes, central banks are capable to manage any risk flawlessly. Yes, the current policies set forth by central banks are without any costs, and without any risks. Or at least, that is what the majority seems to believe.

Meanwhile, in the background, we see an alarming structural imbalance developing on the bond market.

After 40 years of falling interest rates and unstoppable prosperity for bonds investors, a turning point is unavoidable. And given the current circumstances, this turning point will surely be accompanied by a huge crisis in the bond markets.

Why?

Because central banks worldwide have managed to push interest rates to an all-time low.

Simultaneously, there is a dramatic increase of bonds ETFs (bonds funds). The majority of people invest in them because it is the only way to earn interest rates above 4%, while completely ignoring the risks related to 'high-yield'-ETFs' (also called 'junk bonds'). But these ETFs are very risky loans which will, in time, lead to large losses.

But due to the policies set by the central banks, the trade of 'market makers' has changed. Highly liquid funds that only buy short-term paper, so called 'money market funds,' are on the decline. They are no longer profitable, and disappearing in large numbers.

Among others, we can see that in the 'dealer inventory,' or the bonds that are held by 'dealers.'

In short, because of the central banks, the bond market has never been as illiquid as it is now.

During previous sell-offs, banks — the 'dealers' — weakened heavy price fluctuations by spreading the selling orders out over time. Prices still went down, but in a relatively controlled manner. But thanks to the new regulations and extreme monetary policy, banks and other institutions almost never opt for this anymore.

The result? During an exit, in which everyone wants to sell their bonds for whatever reason, there are no longer enough buyers that spread supply and demand over time. The market is illiquid and it will have major consequences once the dominant trend in the bond market makes a U-turn. We will see, among others, 'flash crashes;' very short but very strong price drops in the bond market.

The result will be equivalent to what we have seen in 1987, on Black Monday, but it now concerns the bond market rather than the stock market. That Monday, the Dow Jones dropped 23% in just one day.

Bond investors will be the biggest losers of the coming decade.

'DEALER INVENTORY' SHRINKS AND THIS WILL LEAD TO AN EQUIVALENT OF BLACK MONDAY (1987) ON THE BOND MARKET

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