Gold appears to be setting up for a big move … evaluating the bullish and bearish variables … 30 trillion reasons to own at least some gold

 

We’ve been here before only to be disappointed. So, I write the following feeling a bit like the “the investor who cried wolf,” but here it is regardless…

Gold appears to be beginning what could be a major price breakout.

Below is a chart of gold’s market price with added trendlines that show a wedge pattern. As you’ll see, gold’s price has recently pushed north through its upper trendline.

As I write Wednesday at lunch, the precious metal is trading at $1,908, its eight-month high.

Also, note the bottom pane of the chart. It features the readings of an indicator called Average True Range (ATR).

ATR is a volatility indicator. It shows how much an asset or security is moving up and down in a given time frame. Higher ATR readings are higher volatility readings, and vice versa.

As you can see in the chart, gold’s ATR has been low for a long time. Gold’s volatility has “compressed.”

A study of market history shows that assets often make strong moves after going through periods of compressed price action and compressed volatility.

The recent breakout of this wedge pattern to the north suggests bigger gains could be coming.

Now, we’ve had a handful of breakout pump-fakes before. For example, as spring ’21 turned into summer, it appeared gold was on its way to retest its high from 2000. That rally fizzled.

So, what’s likely to happen this time around?

Well, let’s look at four variables that will impact the outcome.

One, we’re now looking at a longer-term gold chart that features this compressed wedge breakout on a far bigger scale than past setups. And gold has already pushed through the upper boundary. That’s bullish.

Two, yields have been surging and the Fed is about to begin raising rates. That’s bearish – though gold’s price action has been very bullish in the face of rising yields so far.

Three, there’s the Russia/Ukraine conflict. Historically, gold is the go-to chaos hedge when war rattles global markets. While this is bullish today, if our politicians are able to avoid a real, sustained conflict, that return to normalcy would be bearish for gold.

Four, gold no longer has any “inflation protection” competition from Bitcoin. Bullish.

Points one and three are self-evident and don’t require additional discussion. But points two and four could use a bit more analysis. So, let’s start with the relationship between gold and bitcoin.

***Bitcoin is not “digital gold”

Clearly, today, we’re facing an inflation problem. So, investors are looking for ways to preserve the purchasing power of their wealth.

Historically, gold is a go-to asset that accomplishes this purpose. And the working theory (until recently) has been that Bitcoin provides a similar benefit. Some investors like to characterize Bitcoin as digital gold.

On the surface it makes sense. They’re both hybrid currency/assets. They both derive their value from emotion rather than cash flows. And as we just noted, in the past, they’ve both been considered hedges against inflation.

Well, this last point is no longer true.

Though we’re believers in Bitcoin as a long-term investment, its role as an inflation hedge isn’t holding up.

Below, we look at Bitcoin (in black) versus the yield on the 10-year Treasury (in green) since January 1, 2021.

You’ll see that, yes, Bitcoin’s price did generally follow the 10-year Treasury yield – suggesting it was an inflation hedge – up until this year. Since then, there’s been a complete breakdown.

We’ve circled the gaping divergence.

So, what happened?

Well, this was around the time when the Fed was retiring the use of the term “transitory” to describe inflation, and we were getting the first inklings that the Fed was going to accelerate the tapering of its bond-buying program.

Basically, sustained, elevated inflation and the threat of hawkish Fed policy got real.

Bitcoin’s market response – cratering – revealed what investors really think of it: It’s a risk asset, not a stalwart hedge against inflation.

That’s not a negative against Bitcoin. It’s just a truth about its role in a portfolio, at least for the moment.

But this leaves gold as the true, historical chaos/inflation hedge. And investors fearing inflation, who have been burned by falling crypto prices in recent months, could help support a sustained climb for the precious metal.

***The biggest question mark over gold’s future comes from the tug-of-war between inflation and rising yields

Gold sits between two powerful crosswinds today.

On one hand, there’s the headwind of rising yields.

All things equal, gold, which pays no dividend, is less attractive than an asset paying a yield, such as a bond. As yields climb, and as we begin a rate-hiking campaign by the Federal Reserve, gold’s attractiveness drops.

So, we should be seeing gold’s price drop. But that’s not what’s been happening.

Below, you can see gold climbing right alongside the Two-year Treasury yield since the summer.

Traditionally, this isn’t supposed to happen. So, what’s going on?

Well, since gold climbs and falls based on emotion, we can’t pinpoint the reason with perfect accuracy. But fear of inflation is certainly among the factors.

It appears that some investors, who didn’t take inflation seriously for months, are finally growing anxious and rotating some money into gold.

It’s a logical move. With the consumer price index (CPI) running at 7.5%, keeping your wealth in dollars is a guaranteed way to become poorer.

So, investors are sizing up their options: Stocks are pulling back… crypto is in the toilet… bond prices are dropping…

That leaves your hard assets – commodities, real estate, and gold.

And that brings us full-circle to where gold is today, stuck between headwinds and tailwinds.

So, what’s an investor to do?

***When in doubt, look to the past

Yes, gold has been out of favor for a while. But that doesn’t mean it’s dead.

Two points. The first comes from our macro expert and editor of Investment Report, Eric Fry, from several months ago:

The yellow metal is barely registering a pulse at the moment. Most of the wax figures inside Madame Tussauds museum seem more vibrant and lifelike.

But that’s simply how gold behaves from time to time. It “does nothing” for such extended periods of time that investors begin to doubt it could fog a mirror.

Gradually, they turn their back on the comatose metal and leave it for dead. But that’s usually about the time it comes to life.

Gold has been written off for a long time now. Even I, a believer in gold, have grown skeptical – look at how I started today’s Digest.

But in a way, my own skepticism is the contrarian indicator Eric points out. Gold has been a storehouse of value for thousands of years. Is now really different?

The second point comes from former Federal Reserve Chairman, Alan Greenspan:

The abandonment of the gold standard made it possible for the welfare statists to use the banking system as a means to an unlimited expansion of credit.

In the absence of the gold standard, there is no way to protect savings from confiscation through inflation. There is no safe store of value.

Deficit spending is simply a scheme for the hidden confiscation of wealth. Gold stands in the way of this insidious process.

USDebtClock.org reports that the U.S. national debt now stands at over $30 trillion. Meanwhile, the federal debt-to-GDP ratio is an unsustainable 125%.

There is no country in history that has continued to spend at such levels and not had it eventually kneecap the value of its currency.

Yes, countries can handle temporary bouts of massive deficit spending, such as the U.S. during World War II. But eventually, growth has to accelerate, or spending has to slow. Anything else is unsustainable.

So, do you invest in gold?

Yes.

But you’re not doing it in order to make, call it, 12% here in 2022.

You’re doing it to protect your wealth from chaos – whether that chaos comes from Russia/Ukraine, unsustainable federal deficit spending, or some Black Swan we don’t know about.

On this note, I’ll let Eric take us out:

History has not been kind to gold haters; the naysayers usually face a day of reckoning.

That’s why it makes sense to buy gold as Wealth Insurance, and you don’t have to buy a huge amount of gold to have an excellent insurance policy. You can allocate just 15% to 25% of your portfolio to gold.

Its place in your portfolio could add a big boost to your portfolio when you need it most.

We’ll keep you updated here in the Digest.

Have a good evening,

Jeff Remsburg