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Published: May 27, 2010
Earlier this month, gold prices hit an all-time high, as the
yellow metal fetched more than $1,240 an ounce. Yet gold bugs
still think the price can hit even higher highs, back to the
nearly $2,000 per ounce figure hit in the 1980s, on an
inflation-adjusted basis. That could spell further gains for
gold mining stocks such as Barrick Gold (NYSE: ABX),
Newmont Mining (NYSE: NEM) and AngloGold Ashanti (NYSE:
AU). To see where gold may be headed, we need to take a look
back.
Off the Gold Standard
Ever since the U.S. government moved to no longer back its
currency in 1973 with gold reserves, there has always been a
small army of investors who expected the Federal Reserve to use
its unfettered powers of the printing press to create too much
cash and invite ruinous inflation. And with government
increasing its debt obligations for each of the past ten years,
there is real reason for concern. That’s because Uncle Sam will
eventually have only two options to solve the fiscal mess.
Either start to generate fiscal surpluses through a combination
of higher taxes and less government spending. Or accept higher
interest rates on any future bond offerings, which would likely
lead to the rising inflation that many gold bugs expect.
To be clear, those inflation fears have not yet come home to
roost. In fact, inflation steadily declined in the 1990s and has
remained firmly in check in this last decade. Simply put, gold
has to be seen as a hedge against “potential”
inflation. And since gold has risen from less than $400 per
ounce in 2002 to more than $1,200 today, it’s fair to wonder if
any eventual spike in inflation has already been accounted for.
In fact, the only justification for gold to reach $1,500 or even
$2,000, as some anticipate, is if inflation not only rises but
starts to spiral out of control. And that just doesn’t seem
likely in a world where many central banks have learned crucial
lessons about fighting inflation.
The recent further gains in gold are coming from other
factors. Unrest in the Korean Peninsula, along with economic
concerns in Europe, are pushing up gold prices, decoupling the
trade from the long-standing inflation fears. If the Korean
threat abates, or European concerns recede, so will gold prices.
So this may be a time for profit-taking for those buying gold on
the rising inflation thesis.
Action to Take -->
For most investors, it's best to find an industry that appears
undervalued or
overvalued, and then find the company that is
best-positioned or worst-positioned for growth (depending on
whether you are going long or going short). But in the case of
gold, there are many other factors to consider when you go long
or short an individual gold company, including extraction costs,
hedging strategies, and depletion rates. You can capture much
greater upside or downside, and avoid all those other factors,
by playing the exchange-traded funds that often employ leverage
and magnify returns – in a bullish or bearish fashion.
For example, the ProShares UltraShort Gold ETF (NYSE: GLL)
bets against gold, rising or falling at twice the rate in the
opposite direction of the yellow metal. During the past year,
that fund has lost half its value in the face of steadily rising
gold prices. If we see profit-taking in gold, then this fund
should post a decent gain.
Conversely, if you think gold has more room to run and large
government deficits will inevitably lead to high inflation, then
the Market Vectors Gold Miners ETF (NYSE: GDX) might be
the play. Of course, you can also simply acquire gold itself,
and tuck it away in your safe-deposit box. But you should surely
steer clear of any television pitches that highlight gold’s
luster. Most of the time, these firms exist to extract high fees
from investors, lining the pockets of their pitchmen.
David Sterman
Contributor
StreetAuthority |
