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European Decline's Impact On Gold

08/12/11 09:38:19 AM
by Billy Williams

Never before in the history of the market has there been four back-to-back sessions of 400 points going up and down, but the reasons for it are not what is really happening.

Security:   IAU
Position:   Buy

Swings in the current market have been monumental, as never before in the history of the market have there been four back-to-back sessions of 400 points yo-yoing up and down. Global traders are at a crossroads where they are faced with a decision whether to continue to pour investment capital into US Treasury notes, particularly the 10-year T-note, and gold (Figure 1). This flow of capital is taking two different roads.

The yo-yo effect that you are witnessing is because even as these events are taking place, the traders who are committing enormous amounts of wealth are conflicted between predominating thoughts that are leading in the minds of Wall Street and Main Street. The first is that the incredible decline in share price is a buying opportunity where they can snap up bargains in the stock market because it is believed the threat of a financial crash is largely exaggerated.

The other thought that runs polar opposite is that a financial crash is inevitable not because of the overblown news story of the credit downgrade, but because Europe is now facing its own crisis like the US had in 2008. This time, however, it will be bigger and much more scary as the debt of multiple nations is now involved and American banks hold a large part of the European credit default swaps, specifically, Bank of America.

It is this latter idea that is the main reason for the market's downturn, not the credit upgrade. The S&P credit rating is entirely cosmetic, as their rating decision is porous at best. Remember, this is the same organization that gave mortgage-backed securities a big thumbs-up back in 2008, which may give some indication of how poor their analysis truly is in the truly critical aspects of the markets.

FIGURE 1: GOLD. Gold has been on a steady uptrend for a while, but as you can see from IAU, it is experiencing a surge upward as the market experiences rising volatility and uncertainty.
Graphic provided by:
So where does this leave Europe?

Europe, particularly European traders, are at a crossroads.

On the one road, traders are pouring money into US Treasuries, particularly the 10-year T-note, and on the other road, there is money pouring into hard assets, particularly gold. US Treasuries are still an area to park investment capital to Europeans because unlike Europe, which has a long history that has been spotted by loan defaults, the US has never defaulted on its debt in more than 220 years. However, the US, in some eyes, is no longer possessed of a AAA credit rating but AA+, despite the prior explanation on the soundness of the S&P credit rating.

This creates another road that Europeans have decided to put their money in, which is gold. Gold is not much more than a hunk of metal, but its ability to retain value even in periods of turmoil is unquestioned. Europeans and the global community at large will begin to pour money into such hard assets in the next few months, which will cause gold to explode in value and continue an already powerful uptrend.

In summary, equities will experience a retreat from investors, and hard assets such as gold will experience an explosive move upward as the flow of capital pours into this asset as the situation in Europe becomes worse and finally begins to show up on American shores. This will begin to trigger in the next six to eight weeks, causing a panic among Asia and the other parts of the globe, which will begin to frantically look for safe havens to park their capital and cause a rising demand for hard assets, particularly gold.

Billy Williams

Billy Williams has been trading the markets for 27 years, specializing in momentum trading with stocks and options.

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