Tuesday, July 9th 02:05 PM IST

Repeating history and gold bear market

# gold  # comex  # debt crisis  # Jennings Capital  

The weighted average historical duration of previous gold bear markets was 3.2 years with a weighted average price decline of 43%.

TORONTO(BullionStreet): History has a knack of repeating itself and that factor alone could guide the metal towartds the green light at the end of the tunnel.

According to latest mining industry comment by Jennings Capital Inc, gold could be close to the end of the rout though continued price weakness is possible with an implied target gold price of about $1,080 an ounce.

The report said : We have examined this gold bear market compared to the previous ones during the past 40 years to have an understanding of how both the commodity and the equities could respond.

The weighted average historical duration of previous gold bear markets was 3.2 years with a weighted average price decline of 43%.

This suggests to us that we could be close to the end of the rout though continued price weakness is possible with an implied target gold price of about $1,080/oz (a further 11% decline).

We have also examined the widening gap between the commodity and equity valuations which have blown out from its historic trading range due in part to the popularity of ETFs. The Gold/XAU ratio has hit an all-time high and could be due for a correction, in our view, at which point, the trade would be to short gold and long the gold equities.

History Has a Knack of Repeating Itself

We have examined this gold bear market compared to the previous ones during the past 40 years to have an understanding of how both the commodity and the equities could respond. We look at the relative price movements and not the fundamentals as the market has been notorious for remaining disconnected from the fundamentals for extended periods of time though we still believe in gold as a store of value as a number of central banks around the world continue a race to devalue their respective currencies from significant amounts of quantitative easing.

Considering the price movements of gold in insolation has the benefit of capturing investor sentiment, momentum, and the market’s perception of an appropriate supply-demand balanced price without the distraction of seemingly supportive fundamental factors. For example, this recent gold bear market has included the Bank of Japan’s announced intention to double the monetary base within two years, and Germany’s intention to repatriate a significant portion of its gold reserves, events that would usually be received as fundamentally bullish.

How Bad Could It Get? Further Weakness Possible

This most recent gold bear market began after the peak gold price of $1,900/oz set on September 5, 2011. About 1.8 years have passed and gold has declined 37% which compares to the weighted average historical duration of 3.2 years and a weighted average price decline of 43%. This suggests to us that we could be close to the end of the rout with an implied target gold price of about $1,080/oz (figure 3). We derived our weighted average performance using the Rsquared correlation between this current gold price decline and the respective historical gold bear market.

We do caution one obvious limitation of comparing this gold bear market to previous declines with the recent use of ETFs which were not widely used in previous gold bear markets. These products have the effect of increasing price volatility as they themselves buy and sell gold in significant quantities.

A Major Decoupling Between the Commodity and the Equities

ETFs have also changed the way we invest in the gold sector as another avenue of exposure to gold. Using the XAU (Philadelphia Gold and Silver Index) as a proxy for gold equities, we note the Gold/XAU ratio has shifted from its usual trading range, corresponding to the popularity of ETFs, in our opinion, and continues to push to all-time highs.

That said, the widening margin between the commodity and equity valuations could be due for a correction, at which point, the trade would be to short gold and long the gold equities.

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