Gold in 2012 & the Coming Bond Crash?

Since that spurt up to $1917, and the slump down to $1528 gold has been on ice below $1700. The technical analysis suggests that there is little to get excited about until gold breaks out of the $1600 to $1700 range, and I tend to agree. This is a slow-motion degeneration: triggers for a breakout seem limited to a deeper Euro meltdown (coming — and ultimately leading to a default cascade, and a derivatives meltdown), more American money printing (coming), or (most importantly) a large scale and visible dumping of dollars or treasuries by foreign creditors. Black swans like another Fukushima, incidences of terrorism, or broader social unrest might be bullish for gold in the long term, but gold right now (at least in the West) is up against a wall of perceptions: namely, that haven assets are limited to dollars, and to US treasury bonds. In the mainstream lexicon, gold is used to hedge tail risk and to make jewellery, and until that perception is shattered then I don’t think the funds will begin to significantly increase gold allocations.

There are two very strong pieces of evidence here for dollar and treasury weakness and instability: firstly, the very real phenomenon of negative real interest rates (i.e. interest rates minus inflation) making treasury bonds a losing investment in terms of purchasing power, and secondly the fact that China (the largest real holder of Treasuries) claims to be committed to dumping them and acquiring harder assets (and bailing out their real estate bubble). So when these perceptions will be shattered? Here are bond yields since 2007:


The bond market is a market, and like any other it is determined by supply and demand (Zero Hedge readers — algorithmic trading is still a form of supply and demand, albeit a fucked-up one). Low yields mean high prices, which mean that demand is still high — pretty close to all-time highs — which means that in the market the belief that treasuries are a haven still mostly holds.

A large sovereign treasury dumper like China with its $1+ trillion of treasury holdings throwing a significant portion of these onto the open market could very quickly outpace the institutional buyers, and force a small spike in rates (i.e. a drop in price). The small recent spike corresponds to this kind of activity. The difference between a small spike in yields and one large enough to make the market panic enough to cause a treasury crash is the pace and scope of liquidation.

Now, no sovereign seller in their right mind would fail to pace their liquidation just slowly enough to keep the market warm. After all, they want to get the most for their assets as they can, and panicking the market would mean a lower price.

But there are two (or three) foreseeable scenarios that would raise the pace to a level sufficient to panic the markets:

  1. China desperately needs to raise dollars to bail out its real estate market and paper over the cracks of its credit bubbles, and so rashly goes into full-on liquidation mode.
  2. China retaliates to an increasingly-hostile American trade policy and — alongside other hostile foreign creditors (Russia in particular) — organise a mass bond liquidation to “teach America a lesson”.
  3. Both of the above.

Now the pace and scope of any coming treasury liquidation is still uncertain and I expect it to very much be dictated by how the Chinese real estate picture plays out — the worse the real estate crash, the more likely a Chinese liquidation.

The pace of events might also be significantly accelerated in the light of a full-blown Eurozone default.

So in conclusion — give or take the inevitable QE3 spike — I expect gold prices to be stable or lower — even in the context of low real interest rates — up ’til a significant treasury liquidation. I don’t know when or if this will occur, but if it does, I would expect gold prices to soar in the following months. If it doesn’t occur and markets return to stronger organic growth, the gold bull market will probably end.

It must also be noted that a stock market crash will probably send gold lower in the short term, as with 2008. Ironically, the subsequent flight into treasuries (driving rates lower still) might be a NASDAQ-esque “blow-out top” that signifies the end.

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25 thoughts on “Gold in 2012 & the Coming Bond Crash?

  1. I started reading the Black Swan yesterday. Gold is robust to Black Swans (capitalized), while Treasuries are not – but most people think vice versa. I personally think the American empire will harshly remain in its No. 1 place for the next several decades or a century, but the whole financial system is too fragile and gold would be robust to such Black Swan events. I lost a third of my net asset during the last three months but I’m still looking forward to the future. By the way, nice posting. This blog really helps me more than Bloomberg.

    • You’re welcome! The Black Swan is a very crucial book. Gold is anti-fragile as opposed to robust (that’s another story) because it specifically benefits in times of crisis.

      As for America, I’d argue that it lost its number 1 position when it became a net debtor and became number 2 in manufacturing output. But that is highly controversial. America remains the number 1 global military power by quite some distance, but so did Rome ’til the very end…

  2. As you know Gaddafi was removed from power because he was starting to make moves to trade his oil for gold and this would have precipitated the demise of the dollar. See this 3 minute RT video:

    So the powers that be know the score I am sure they have some sort of back up plan or they are knowingly heading towards the abyss hoping it will go away.

    • Perhaps the most contentious issue I write about is whether or not this global turmoil is planned and directed (the conspiracist view). To misquote Seneca:

      Keynesian economics is regarded by the naive as true, by the wise as false, and by rulers as useful.

      The credit contractions resulting from fractional reserve banking’s cycle allow the hyper-wealthy to acquire assets at pennies-on-the-dollar during depressions. So a lot of economic disruption is, if not planned, then at least welcome.

      Now that doesn’t mean that the destruction of Western economic primacy was planned, not at all. I think Nixon and Kissinger believed they could transcend history and produce a free-lunch by printing money and importing goods and materials whatever America needed. They believed that that free lunch would make America and the Western elite stronger, because instead of producing food, and manufactured goods we could concentrate on services, culture-produce and meta-goods, etc. A lot of the “big thinkers” we see at Davos and writing in the NYT got intoxicated on the transhumanist mythos — Fukuyama, Tom Friedman, Ray Kurzweil, etc.

      It only partially worked out like that. That “free lunch” transmuted America into a kind of sophisticated parasite dependent on hostile manufacturing creditors.

      The conspiracist view is that this is all a big ruse to create a highly profitable new series of wars, to reduce global population, and to strip Western nations of their rights and liberties.

      If that is true it would be the most stupid and counter-productive conspiracy in history. I believe the truth is that the Western elites became intoxicated by the promise of a free-lunch, just like the elites of their Roman, Egyptian, Qing and Romanov (etc etc etc) forebears.

  3. Rob,

    Thank you for the Video. I will research further. It kind of sickens me, because for all of Qaddafi’s faults, the ideas seem to be for a longer term benefit for his people and all of Africa.

    Lets hope the new Muslim power is not a dark future for us. I hope they realise that all this production of oil, paid in US dollars and Euros will be a grand theft of history. You can’t run commerce on burning paper in a boiler. Not enough energy in steam power!

    The same thing happened during the 3rd Reich. Give idiots guns and power, and they do all the dirty work for you.

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  13. Gold bugs are too wedded to gold to be able to predict if and when gold will enter a bear market. Even as gold is now forming a huge descending triangle on the weekly chart, the gold bugs and gold delusionals are forecasting 4500 per ounce gold. They will still be saying the same thing when gold is $500 per ounce

    • Guess what: the gold market fundamentals aren’t being driven by Keynesian central bankers who “know better”. They’re being driven by people who are concerned about counter-party risk, and a broken global financial system. They’re being driven by people who want a fungible and tangible asset with a history as a unit of account and store of value, and not paper that might soon be worthless in the context of a default cascade, or other such credit event.

      The idea of $500 an ounce gold in the context of current M0, M2 and current DJIA prices is frankly absurd.

      You would need a sustained recovery, with the return of American manufacturing, American and European energy independence, lowered unemployment, a successful deleveraging and balanced budgets in both America and Europe, diminished counter-party risk, and diminished demand for gold from China and India.

      As it is, it is far likelier that instead of actually fixing underlying problems, policy makers will keep printing money instead, because it’s easier and quicker, and it gives a temporary boost.

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