On Gold And Russian Dolls


Disclosure: I am long AEM, SVLC.

Consider a Russian doll, or matryoshka, consisting of wooden figures that can be separated to reveal a smaller figure of similar type on the inside. The outer figures can be peeled off, stuck back together and placed next to each other just like shown on the picture below. Each figure may look distinctly different from the others as they stand next to each other; each larger figure provides certain constraints into which the smaller figures need to fit; and only all of the figures together form the matryoshka.

(click to enlarge)

Imagine taking one of these figures away, and placing it separately somewhere without the context of the other figures. Someone might come along, study this figure and describe it. Now imagine taking another figure and repeating the process. The resulting second description will almost certainly differ considerably from the first.

Reading through this week’s offerings on Seeking Alpha giving opinions on gold investments felt a little bit like reading descriptions of different figures from one and the same Russian doll as described above. It seemed that even though most authors writing on the subject had a very clear idea about their particular approach, they were writing about a completely different subject compared to the next author. Authors claimed to write about ‘gold’ and its underlying drivers but the conclusions reached during the past two rather turbulent weeks differed from: ‘Gold will plummet to $1350; get out!‘ to ‘Gold will never be as cheap again; buy with both hands!‘.

In our Russian doll analogy, each article was looking (at best) at a limited sub-set of figures at a time deriving conclusions from observing this sub-set. What we found missing in many of the articles was the willingness to accept that ( a) there are more figures in the Russian doll than any one person can get a handle on, and ( b) there are constraints imposed from larger figures that might not be part of the observed subset.

Here are some figures of this particular matryoshka that featured during the past week:

  • The currency war.
  • Price manipulation.
  • The petro-dollar loosing power.
  • Increasing production cost.
  • Gold is a currency.
  • Gold is not a currency.
  • The BRICS development bank.
  • The dollar debasement.

The list goes on. Further than we care to think possible.

For an investor trying to decide whether or not to buy or sell gold this represents a conundrum. There is a lot of noise, a lot of well written contradicting opinion, and a lot of agenda. Gold is easy: just ask Warren Buffett. Gold is complicated: just look at all those Russian dolls.

Gold seems to be governed by a myriad of influences comparable to all those outer figures providing accumulating constraints for the inner figures of our Russian doll analogy. But consider this: many constraints from larger figures will be absorbed by intermediate figures and may not matter for the smaller ones.

Here is what we have come to believe:

  1. Only a very finite number of influences really drive the price of gold at any given time. The art of making a successful investment in gold is picking those influences correctly.
  2. Drivers change over time.
  3. Drivers for the short-term differ from the long-term drivers.

And since we can’t leave without sticking our head out and sharing our personal view of the moment and some associated investment suggestions, here it comes:

Short term

  • Gold will go a little lower yet.
  • The main driver is the perception of economic recovery in the USA.
  • $1500 per ounce should hold.

For gutsy investors: consider Direxion Daily Gold Miners Bear 3x Shares ETF (DUST) or ProShares UltraShort Gold ETF (GLL). Keep a hawk’s eye on the charts.

For more conservative investors: keep your powder dry and have a cup of herbal tea when the urge to pull the trigger makes itself felt. Keep an eye on the charts.

Long term

  • Gold will go much higher.
  • Main drivers will be inflation and the realisation that the American economy is not as solid as it seems.

Possible investments: physical gold. Sandstorm Gold (SAND), Goldcorp (GG), Agnico Eagle (AEM), and a myriad of growth-oriented small to mid cap precious metal miners operating in reasonably safe jurisdictions such as Luna Gold (LGCUF.PK), SilverCrest (SVLC) or Metanor Resources (MEAOF.PK) to name just three. SPDR Gold Trust ETF (GLD) only if you really must.


About abwehra group

The Art&Science of Trading Gold
This entry was posted in Uncategorized. Bookmark the permalink.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )


Connecting to %s