December 21, 2012 - buy gold

What drives the price of gold? Inflation and inflation expectations would respond most people interested. In fact, some are  obsessed by more than inflation - hyperinflation is just around the corner and it is going to make the price of gold shoot through the roof! They cannot explain why gold has risen despite the rather deflationary environment since 2008, but they have made money and that's all that matters.

But there is another view, which is not known to many. Gold is priced just like bonds are. That means that gold is sensitive to the expected fluctuations of the real interest rate. Here are some blog post by Paul Krugman explaining this:

http://krugman.blogs.nytimes.com/2011/09/06/treasuries-tips-and-gold-wonkish/?smid=pl-share

http://krugman.blogs.nytimes.com/2011/09/10/golden-spikes/?smid=pl-share

http://krugman.blogs.nytimes.com/2012/08/26/golden-instability/?smid=pl-share


In short, what this means for gold now is that it should rise whenever the economy is expected to slowdown, because this would imply a lower real interest rate as long as the Fed keeps inflation expectations relatively high.

As I said in my previous post, a slowdown in the economy, and mostly in employment, can be anticipated starting in January. If retail sales continue lower, the direction will be confirmed. Meanwhile, Gold has come to a very nice, low-risk buy point - committing below its 200 DMA and hitting monthly support.

I think this point will represent the low for the multi-month correction in gold and that a move to new highs will start soon. Generally, gold is ending its corrections as the market approaches a bigger correction. With yesterday's developments regarding the fiscal negotiations, a more important top for the stock market may have been pulled closer.