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Beware of $400 an Ounce

Following the weaker than expected payrolls report the dollar was pummeled and gold and silver rallied. Given that the Fed may not be able to raise interest rates as aggressive as previously thought, many foresee the weak dollar/strong gold trend continuing for some time. No disagreement here. However, unless - or more precisely until - the dollar collapses $400 an ounce may prove to be a formidable hurdle for gold. Why? Because the commercials have been attacking this psychologically important mark with vigor and great success.

To note: this is not to say that the commercials can somehow magically cure the pickle the Fed finds itself in. On the contrary, if Greenspan is unable to raise interest rates for fear of further economic retrenchment it is nearly universally held that the dollar will remain vulnerable. The commercials can not do much to change these facts of life.

However, what the commercials can do, and have done, is bide their time when gold rallies, and then swamp the market with short sales at the opportune moment. Case in point, when gold was nearing its January highs the commercials aggressively took their largest short position on record. The timing of this attack was, quite frankly, perfect.

Needless to say, with only 134,000 short contracts on the books today (as of Aug 3) the commercials are fully capable of adding to their shorts at any moment. With this in mind, last weeks impressively rally - which was capped at the $400 an ounce mark - could be an ominous sign.*. The last time the commercials attacked $400 an ounce in July it took less than two weeks - or a 41,355 jump in short contracts - to crush the weak hands (see "Mini Attack" below).

Will $400 an ounce be conquered more quickly than $300 an ounce?

On November 27, 1997 the price of gold fixed below $300 an ounce for the first time in more than a decade. Over the next 4+ years gold would try to regain the $300 an ounce level no less than 15 different times. The last, and perhaps final time gold fixed below $300 an ounce was on March 27, 2002.

On December 1, 2003 gold fixed above $400 an ounce for the first time since March 27, 1996. Less than 1-year since gold first touched $400 an ounce and there have already been 9 unsuccessful attempts to sustain this level (an unsuccessful attempt being a close above $400 an ounce that is followed up by any close below $400 an ounce).


In July the commercials showed the gold market who is boss [again]. To be sure, the commercials pushed gold below $400 an ounce, and the speculative longs have dumped with abandonment - the 22% decline in speculative long interest for the week ended Aug 3 marks the worst such weekly decline in more than a year.

A washout of speculative capital and a more 'bullish' positioning of the commercials (lower short/long ratio) suggested that gold was primed for a rally last week. However, the data, unless you were on the inside, was not released until after the week was already over. As is always the case after a sharp move in gold, the data is now almost useless.

As for the term 'bullish', it is worth remembering that the commercials have not held a net long position since December 11, 2001. * Although there remains the possibility that the commercials will go net long again one day, for now a positive outlook for gold is when the commercials are less bearish (i.e. last week's 1.89 short/long ratio has been a bullish number since 2002).

In short, for the newcomer in gold the old $300 an ounce methods of accumulation apply today using the $400 an ounce level. In other words, accumulate gold under $400 an ounce but do not buy gold much above $400 an ounce (or as the commercials start becoming too deep into the short game to do anything but sell more paper gold). As for selling your gold, this does not become an option unless - or more precisely until - the dollar collapses.

GOLD -- Open Interest (av. open interest by month)
Year: 1998 1999 2000 2001 2002 2003 2004
Dec 151,707 156,175 113,367 111,205 190,682 277,229 ?
Nov 164,217 185,850 134,035 113,601 165,827 276,180 ?
Oct 186,745 218,246 132,278 126,114 163,531 254,120 ?
Sept 185,545 208,450 132,366 122,777 165,477 282,228 ?
Aug 190,042 192,828 125,789 117,408 146,358 220,484 217,814
July 168,388 208,746 138,596 113,084 165,770 198,488 240,818
June 171,466 207,382 142,465 116,695 174,717 199,758 224,863
May 158,563 194,307 162,716 118,938 191,022 191,362 251,979
Apr 182,848 198,398 154,639 121,390 160,707 175,932 278,246
Mar 179,896 180,160 159,503 126,741 143,405 189,180 257,948
Feb 171,198 184,812 156,029 142,841 144,755 214,145 239,372
Jan 181,130 177,772 151,032 132,295 124,441 219,522 284,411
Aug 2004 -- For 1 week only
Highest average monthly gold price (for year)

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