What Doesn’t Kill Gold Makes It Stronger
Tuesday, 6 August 2013
I’ve been emphasizing for months that the current correction in the gold price is a result of speculative money fleeing the market and not any reflection of gold’s long-term fundamentals. Unfortunately, there is so much money to be made (and lost) by day trading that my cautions have once again fallen on deaf ears.
Well, it looks like the so-called “technicals” are starting to support my theory, and so this month I’m going to depart from my typical discussion of market fundamentals and take a look at the COMEX gold futures market. It turns out that the same paper markets that helped drive the price of gold down are beginning to run into the hard reality of physical gold demand; their reversal may push gold to new highs.
Reading the Futures
The world of futures contracts is often confusing for ordinary investors. It is mainly the domain of institutions seeking to hedge and professional speculators. I do not recommend passive investors get involved in futures trading, but it is helpful to understand how these financial instruments affect gold’s spot price.
In its most basic form, a gold futures contract is an agreement to buy a set amount of gold at the current spot price with delivery guaranteed at a future date. The attractive part is that you don’t need to pay the full price up front. You can put a down payment on 100 ounces of gold today, knowing that you will only have to complete the payment when the contract comes due. If the price of gold rises in the intervening time, you’ve made a nice profit, because you end up paying today’s price for a product that is worth more in the future. Of course, the person who sold you the contract takes a loss for the same reason. The person buying the contract is said to be “long” gold, while the seller is “short.”