Gold's New Margin Requirements

The end of the month is upon us and normally it would provide some market strength.  With the huge November rally behind us, that normal month end strength may not be as prominent as the Dow Industrials demonstrated today, dropping about 80 points.  With our stance now being that the Dow hit some firm resistance in that 10,950 area several days running, we didn’t think we would see much strength anyway.  

Normally the last day of the month would be a good time to buy and this month we have seen some good news out of the economic numbers over the past few days.  Today’s news was that the latest revision of third quarter GDP showed an improvement to 4.3% from the previously estimated 3.8%.  Ah, the magic of numbers.  Every time the GDP number comes out, I think about the understated inflation factor.  We have discussed on several occasions the beauty of keeping the inflation numbers down.  The two big reasons are to show better GDP growth and the other to hold down the cost of the Social Security program.  It’s a magic trick.  Sorry, truth in advertising doesn’t apply to government numbers.

The other story that I wanted to mention is about gold.  Gold briefly traded above $500 this week but today dropped about $7.  The mere fact that gold traded at $500 is enough reason for a pullback but there is more.  First, we think that the price movement of the mining stocks precedes the price of the metal itself.  The HUI index has struggled during this recent spurt higher in gold.  That is a warning signal.  

Second, the powers that be don’t like gold as an investment due to the very obvious signal a higher gold price means, lower currency values against the ultimate currency, gold.  This week a new margin level was instituted which makes it more expensive to hold gold futures contracts.  On the surface it looks like a very legitimate move because margin requirements are ridiculously low for most commodities and gold is no exception.

Using the price of $500 for gold and the precious margin requirement, you can buy one futures contract that controls 100 ounces of gold, $50,000 worth, for a mere $1,350, not bad.  The new rules impose a much higher $2,025, which doesn’t seem all that much either, but it is about 50% higher.  This can, by itself, cause the price of gold to drop.  Of course, third is the notion that inflation is under control in this country, right.

Another thing that could be holding gold back a little is the extreme bullishness in the gold market.  As we always say, these are contrarian indicators and we are bearish on gold and its shares.  Today’s down move was more than confirmed by the gold mining stocks drop with the HUI dropping over $7.

In the middle of all the rest is the Fed sitting back and pushing rates up with another one coming in mid-December, the 13th to be exact.  Gold doesn’t really like interest rates moving up because it makes owning the currency that makes babies (interest on your cash or bonds) look better than something that doesn’t have babies.  

The last two things we want to mention are the jobs report that is coming on Friday and tomorrow’s report from the ISM on manufacturing. The jobs report hasn’t seen much play over the past several months and I think it likely that it won’t this month either.  But, you never know since it has had so much influence in years past.  As of tonight, the estimate for jobs is about 220K so you can judge the number for yourself when it comes out on Friday.  The question is what will happen if the number is smaller than that?  Will the market rally due to the Fed’s response?  It is hard to tell but we think the market needs to retrace, at least retrace, some of the gains of the past six weeks so we might as well have the jobs report for a catalyst.

The ISM manufacturing report could have some bearing on the trading tomorrow but I think it is likely the market is waiting until Friday’s uneventful jobs report.  Again, this report has been a market mover in the past but tomorrow…

We believe that market topped in the past week near the 10,950 range and it can trade back up to there if it likes but we will mark that level as our top.  If the market can some how break through that, we would probably need to back off for a few weeks.  We see the market as very overbought even after today’s trading.  Be careful and be selling strength.

I promised to give some more information on Erick’s question the other day but haven’t had room to do so the last two days—we’ll try again tomorrow.  Sorry.

Dow Industrials:  10,802.87  -82.29  (uh oh)
RYVNX:  19.03
TLT:  90.00
BGEIX:  13.68