why isn't gold flying...

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    From Gold eagle

    Gold's Short Position:
    Part Myth, Part Yesterday's News

    Chris Temple, Editor
    The National Investor

    Sometimes, my commentaries on the gold market have solicited negative-even angry-reactions from the most died-in-the-wool gold bugs. I certainly don't have that as my objective; in the end, I think my job is to look at the FACTS as best they can be ascertained, provide sound, unbiased information and, ultimately, investing and trading recommendations based on all of this. Thus, when I from time to time try to inject a little reality into some folks' unabashed, even religious, bullishness on the gold sector, I end up trampling on the beliefs and emotions of those who remain convinced that any day now their favorite metal will soar into the stratosphere.

    Well, folks, it's time for another injection of reality!

    Let me say at the outset (to keep the hate mail to a minimum) that I remain convinced we're in a long-term bull market for gold. In January, I predicted that-once we remove the speculative swings up and down based on war fears and such-we'd finish 2003 in a new trading range that will see gold between $350-380 per ounce; a range 15-20% higher than that of 2002. This qualifies as a bull market in anyone's book. Further, especially if the Federal Reserve is even more aggressive at lowering interest rates and drags along a somewhat reluctant European Central Bank into doing the same, I may even be convinced to bump up that range before much longer.

    The purpose of this commentary, though, is to discuss what we have NOT seen in this new bull market-at least, up to this point-and the possible reasons why.

    It has been long predicted that once gold moved above certain levels we would see an unprecedented buying stampede. The reputed source of such demand would be those players who, during the gold carry trade boom of the latter part of the 1990's, borrowed tons of the shiny stuff and sold it short, to profit both by reinvesting the proceeds elsewhere and from the declining gold price. By some accounts, the short position even now is as high as 15,000 metric tons, the equivalent of the expected new mine production over the next SIX YEARS. Certainly, if even a healthy minority of these positions (to the extent they really still exist) needed to be covered all at once, sheer bedlam would be created in the markets. Not only would gold's price indeed soar, but most other markets would be roiled as speculators would have to trash holdings in bonds, stocks, currencies and more to cover their behinds where gold is concerned.

    Such a thing came perilously close to happening in the Fall of 1999. Following a well-bid Bank of England auction and the surprise Washington Agreement that limited new sales and leasing activities by most central banks, gold began to soar. At that time, gold's $80 per ounce spike in a mere three weeks was indeed caused primarily by those who had been caught with their pants down on the short side, and were scrambling to cover. Had not the New York Fed (via J.P. Morgan) intervened to cap gold's rise, it would indeed have been "off to the races." In my view-as I wrote at the time and have reviewed several times since-the world's financial markets were within a few days of having their wheels come off.

    We're nearly four years later in time. And now-even during gold's two significant (but temporary) spikes higher during the last few months-we have seen no evidence of such a mad scramble as occurred in 1999. The question is-why not?

    I'll tell you what I think the answer is. In my May, 2002 special issue on gold's new bull market, I talked about an interesting phenomenon that was happening. In spite of a gold market that was gaining momentum, lease rates were steadily declining. During 1999's move, lease rates spiked as sudden high demand for gold caused the market to tighten. This time, though, was different; and I wrote:

    "I believe that the Fed-and perhaps other central banks-has been feverishly 'liquefying' the gold market so as to keep the recent advance a much more orderly one than was 1999's. . .The motive, of course, is to get as many of these institutions (those still heavily short) as possible out of harm's way in the event that gold rises far more, and in such a way that the bankers are unable to do anything more than slow it down. . .I am increasingly persuaded that the low lease rates are an indication that the bankers realize, in the end, that they cannot fight the markets where gold is concerned, any more than currency intervention works if the markets are of a mind to do something different..."

    Among other things, I also wrote in that same report that the Fed now desired a rising gold price. I believe it continues to want this; though, again, in a fairly orderly fashion. In case you've been asleep in recent months-and especially in recent weeks-the central bank is hell bent on fighting DEFLATION now. In some respects it will succeed; in others, history and mathematics are against the Fed. Whatever the case, the most politically powerful and influential economists are telling us that a rising gold price is "proof" that the Fed's efforts at reflating both Wall Street and the economy are starting to bear fruit. And Alan Greenspan is not about to take that ammunition out of the pundits' hands when all of them need any and every reason, both real and imagined, to convince the public that all will be well.

    Folks, there's NO WAY the Fed or other central banks would follow their present course without first having largely defused the short position in the yellow metal. I believe they've done exactly that over the last year or so. A liquid gold market and time have helped; for instance, J.P. Morgan's derivative position where gold is concerned has reportedly been reduced by two-thirds since it served as the Fed's proxy during the 1999 spike.

    Frankly, when all is said and done, this actually makes for a much healthier gold market over time anyway; one that is not beset by such artificial influences. Gold has enough speculators to deal with from time to time as do most commodities; witness the hedge fund crowd's spiking of gold to $390 late this past Winter and to nearly $375 just a few weeks ago before turning right around and taking their short-term profits. More and more, I believe that the continuing preoccupation with what could well be more phantom than real coming "short squeezes"-and even with the issue of central bank manipulation itself-is old news. Those investing or trading in the gold sector based on yesterday's news or theories to too great a degree will be disappointed, just as they've been for the last year.

    June 14, 2003

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