Wednesday, June 9, 2010

Bernanke Confused by Climb in the Price of Gold

During testimony today, Fed chairman Ben Bernanke said he was confused by the climb in the price of gold.

Bernanke noted that the inflation signal isn’t confirmed by movements in other asset classes, reports WSJ. Yields on Treasury bonds tend to rise when investors worry about inflation, but those yields have been falling recently. Inflation expectations as measured in Treasury Inflation Protected Securities (TIPS) markets remain low. And other commodity prices are falling. Gold is breaking records, but copper prices are down 17% so far this year.

“I don’t fully understand movements in the gold price,” Bernanke admitted according to WSJ. But he suggested it might be another example of investors fleeing risky assets and flocking to assets that are perceived as less risky, not only Treasury bonds, but also ones like gold.

Bernanke is right in one sense in that the Fed is not printing any money and neither is the ECB. These are the types of situations that would not normally cause a spike in the price of gold. What is causing the flight to gold is the current sovereign crisis in the EU. In an almost knee jerk reaction, EU members, especially the Germans, are fleeing the euro for what they perceive as a money with more safety, gold.

Unfortunately for those dumping the euro for gold, the end may not be so pretty, since at this point the ECB is not printing euros. Thus, there is a very finite amount of euros that can chase gold. It is not like a period when a central bank is fueling a gold rise by printing more and more of a currency.

Admittedly, this buying is very strong. That's clear by the way gold has broken to new highs, but this buying will end at some point, and unless the central banks start turning on the money spigot, the gold price will pull back. Thus it remains a very tricky period for gold. The strength of the current buying is tough to gauge, yet it appears finite--unless the printing begins. Thus, my advice remains to continue to hold long-term gold. For short-term traders, its best to either remain on the sidelines or short gold with a three month to six month time horizon for a breakdown in the price. However, for short-term traders if the Fed or the ECB starts printing again, shorts will have to be covered-profits or losses at such time notwithstanding.

No wonder Bernanke is confused.


  1. Wenzel,

    I feel like this is my "gold can rise in a deflation if it's being re-monetized by the marketplace" thesis which you've been skeptical of in the past. I can't tell if you're agreeing with me now in this post. Like Bernanke, I am confused.

  2. Normally you wouldn't have a re-monetization during a deflation. Generally, during a deflation you have everyone trying to raise cash---even many gold holders. The current situation is a very unique situation because you have a crisis in Greece and Spain causing Germans to buy gold.

    It's dangerous to think of a deflation time in general as a period of gold re-monetization. I hate to say this but a deflation is most likely a time of gold demonetization. See the 1982 gold peek.

  3. I've always thought of gold, not as a hedge against inflation only, but a hedge against government incompetency. Given the astoundingly high level of the latter, even without the former, I'm not sure that this situation is comparable to the early 80's. The early 80's peak of gold dropped due to Volker's tightening ... does anyone believe the Fed will attempt that level (or any level) of monetary tightening (as opposed to simply leaving it alone)?

  4. Bernanke right now is tighter than Volcker ever was.

    As for gvt incompetency, how would say rent controls, the SEC bureaucracy or the FDA bureaucracy benefit gold?

  5. Pardon my wording, by incompetency I did not mean the artificial restraints and barriers the State creates .. Perhaps I should have said a distrust in the ability of the State to continue to back its paper, regardless if the current climate is inflationary or deflationary, or more broadly, to maintain some semblance of a free society ... one's odds are better of bribing a border guard with an oz of gold than a suitcase of paper money that may or may not longer be the State's official currency

  6. Gold is starting to be treated as an alternative currency. When devaluations and defaults are the order of the day a perceived monetary asset that is no one's liability becomes attractive. That's the reason why almost every single commodity in the world is falling hard while gold flirts with all time highs.

    Central Banks still hold a large portion of the above ground stocks and a number of them have been increasing their holdings. What does that tell you?

  7. I think it was an attempt to head of gold's continued rise and a blatant lie that he didn't know why. Because he also mentioned that the debt that the country continuing to the add to the deficit is unsustainable. If he can't put two and two together we are in big trouble.