On October 6 when GLD was trading for $114, I outlined a surprising case for the bullish trend change in the precious metals by asking the question accompanying the chart below, “What is this a chart of?”
In my article, “This Secret Uptrend Will Surprise You“, I laid the case for a rally in the precious metals on the back of a short term bottom in the Euro. That article and chart were extremely important for those owning precious metals as the updated chart below shows price has held its trend (in Euros) and has again started to advance.
Gold (NYSEARCA:GLD) is up 4% since.
Is this the long awaited bottom gold bugs have been waiting for?
Complicated International Finance and Parity
The short story of why gold and silver have fallen so sharply over the last few months (and started rising again) is because of the worldwide pricing of the metals in U.S. Dollars.
As a global commodity, the precious metals are bought and sold around the world. The U.S. Dollar also is just a medium of exchange. And, when the U.S. Dollar gets more for its money as that medium (when it strengthens like it did the last few months), gold becomes cheaper to buy using those now stronger American Dollars. And that means gold’s price drops when measured in Dollars.
As a store value, gold should keep the same purchasing power no matter what the currencies do. As the U.S. Dollar (NYSEARCA:UUP) rallied 8% the last few months it has regained some of its former “strength”. That strength means gold (NYSEARCA:DUST) is now cheaper when priced in U.S. Dollars, but more expensive when priced in Euros and other currencies.
WATCH: How we caught gold’s 15% rise during the first quarter
This is best shown in the chart above displaying gold priced in Euros. The Euro, like gold, has lost around 8% of its purchasing power over the last few months. The equality between its move and gold’s is reiterated by the chart’s price staying rather flat over the same time frame as the Euro and gold each lost around 8%. In fact, year to date gold’s outperformed the Euro as represented by the longer term uptrend.
Here is another example of how this works:
If 100/10=10, then what is 100/20? The answer is of course 5. So what if the numerator in that equation is an ounce of gold and the denominator is the current exchange rate of its primary medium of exchange (in this case the U.S. Dollar)?
Other similar examples include the Economist magazine’s Big Mac Index (NYSE:MCD) which helps track purchasing power parity across the globe. The magazine publishes the price of a Big Mac across countries through time to help get a feel for a currency’s strength. The premise is a Big Mac should cost similarly everywhere.
So, are we finally now at the ultimate bottom the gold bugs have been waiting for?
There is a case to be made for gold prices to kick off the long awaited rally, but in such a scenario you would likely also need to assume the U.S. Dollar will be much weaker than it is today. This was not the case I laid out back in March for our subscribers that had them ready for the latest selloff in gold and concurrent rally in the U.S. Dollar (NYSEARCA:EUFX).
A stronger Dollar would no doubt be bearish for the precious metals (NYSEARCA:ZSL) just as a weaker currency would be bullish (NYSEARCA:AGQ).
Read the ETF Profit Strategy Newsletter and see how far I expect the gold bounce to go. Find out if now is the excellent buying opportunity gold bugs have been waiting for, or if we should just be prepping for our next opportunity to use inverse ETFs to play the next downside move.
Follow us on Twitter @ ETFguide