Pivot Points for Gold

Gold

Despite the exodus from gold and into equities, gold’s decline hasn’t been nearly as precipitous as that of the gold/silver mining stocks. Nor has gold suffered to the degree one would expect given the inflows into equities and mutual funds. Take the 1-year chart for the SPDR Gold Trust ETF (GLD) for instance. Although the Dow Jones Industrial Average (DJIA) made a new all-time high on Tuesday, GLD is still above its lows from last June. And while GLD hasn’t managed to close above its 10-week moving average since November, its decline has been fairly contained until now.

While the average retail investor may not be lining up to buy gold, clearly the deep-pocketed investors who have been in the “buy and hold” camp these last 10 or more years haven’t been dumping the metal. The question is why not, and if they are still holding what is it that has convinced them that gold is still worth holding? In other words, are there informed investors who know something the average small-time investor doesn’t know?

Consider two potential trouble spots that could serve as a trigger for a gold price reversal further down the road: Asia and Europe. China’s Shanghai Composite Index has been diverging lower against the rally in the Dow Jones Industrial Average (DJIA) lately, leading some analysts to believe that China will face economic headwinds in 2013 unless it significantly boosts government spending. China’s government has pledged to do just that but the market remains unconvinced.

Moreover, China’s government has announced its intention to deflate the country’s real estate bubble. Among other measures, homeowners selling property will have to pay a capital gains tax of 20 percent of the profit they make on the transaction. (Homeowners will previously taxed 1-2 percent of the total sale price). Other measures include higher interest rates and minimum down payments for those buying a second home in cities with high real estate prices, according to news source Xinhua. When governments try to control market trends it always carries a major risk of disaster. If economic history is any guide there will almost certainly have negative consequences for China and, potentially, other economies.

The euro zone, meanwhile, is headed for a fourth consecutive quarter of economic contraction, as surveys of purchasing managers indicate business activity shrank at a fast pace in February. According to the Wall Street Journal, the composite Purchasing Managers’ Index for the euro zone fell to 47.9 in February from 48.6 in January. The sub-50 reading means activity across the currency bloc’s manufacturing and services sectors declined month-to-month. “That will likely feed calls for a reconsideration of the euro zone’s strategy for tackling its fiscal and banking crises,” writes Alex Brittain and Paul Hannon in WSJ, “which has relied heavily on austerity programs that have had a larger negative impact on growth than policy makers had expected.”

As Europe’s economic prospects were viewed as improving in November through January, the euro rose while gold fell. Since February, however, the euro has been declining while gold has slowed its rate of descent and is clearly trying to bottom on a short-term basis.

To reiterate our ongoing theme of recent weeks, a revival of overseas economic troubles later this year will almost surely benefit gold. The latest European economic setbacks, along with China’s dangerous real estate experiment, could prove to be a precursor for more troubles down the road. Any such increase in global economic woes will be sure to rekindle the yellow metal’s safe haven status among investors seeking protection.