Jeffrey Nichols: MD American Precious Metals Advisors

Jeff Nichols looks at the weakening correlation between gold and the dollar, the testing of the $1,100 level and what to expect going forward

GEOFF CANDY:  Welcome to this week's edition of Mineweb Gold Weekly podcast. Joining me is Jeffrey Nichols MD American Precious Metals Advisors.  Gold seems to have been testing the $1100 mark quite well over the last little while - what's been happening this week?

JEFFREY NICHOLS:  On Monday and Tuesday this week - the market responded to a much better technical picture.  In recent days, last week, and early this week we've seen pretty much a drying up of the speculative selling that we've been pushing gold lower over the last few months to be replaced with some buying by traders and speculators here in the US and probably elsewhere, reflecting the firmer tone of the market.  Interestingly, the link between the dollar and gold in which every up and down in the dollar was mirrored by an opposite move in gold, appears to have weakened in recent weeks.  In February - despite strength in the dollar gold managed to climb a little bit, and I think its left the market looking much better from a technical point of view.  From a fundamentals view point, the selling that's been going on over the last few months, beginning in early December 2009 continuing in January and into February 2010 was principally selling of derivative products, futures, options other paper instruments if you will, by short term traders and institutional speculators - people who have no long term allegiance to gold but view it as an instrument to be traded along with the US dollar and other financial instruments.  Therefore the selling was coming from that quarter - many of those sellers had a significant impact on the market driving it lower, but interestingly on the buy-side we saw demand in physical form coming from the Asian economy - particularly India in the last couple of months has been very strong in terms of imports and gold investment demand recovering smartly from the weakness of the past year or so.  Also a pick-up in demand and interest, not only in China, but also in the other East Asian economies that have an affinity to gold.  While the selling that we've talked about a minute ago was in derivative form by traders and speculators - the buying is in physical form by people, and some institutions, that have a long term affinity to gold and are likely to be long-term savers rather than traders and some of that gold will probably never come back to the market again.  The process overall over the last couple of months has left the gold market in a much firmer, much more positive position than we were a few months earlier.

GEOFF CANDY:  Why do you think this has been the case - why have you seen that drying up of speculative selling?

JEFFREY NICHOLS:  Part of it is driven by the technical picture in the market.  With the testing of the $1100 level several times and gold picking up each time - recovering, moving back up a little bit, has taken the wind out of the sails of the short sellers - the psychology has shifted a little bit and the selling that was to be done, has been done and they've looked at the market and said the technical signs aren't as negative as they were - they're not negative anymore and in their place we've seen some pick-up in speculative long positions here on US futures exchanges in the last week or two.  Therefore, it's been a process of the markets in a sense just simply running its course and looking as if it's gone as low as its going to go to many of the players who then have changed their positions around to reflect the new reality.

GEOFF CANDY:  If we look at the relationship between gold and the dollar - you mentioned earlier that that correlation is been weakening a little bit - is this something that's likely to continue to weaken, and why so?

JEFFREY NICHOLS:  It is going to continue to weaken - the issue really is that all the major currencies are weak currencies - in a sense they're all sinking ships - the question is which ones are sinking faster - which ones are sinking slower?  Therefore, against gold we're going to see all these currencies weaken and if the dollar does well against the euro, it doesn't mean it's retaining its purchasing power it just means that the euro is in even worse shape or foreign exchange traders are even more pessimistic about the euro than they are about the dollar for reasons having to do with sovereign risk in all the other issues that we talk about.  So, I'm looking at the whole complex of currencies and thinking that the dollar, yen, pound and some of the other currencies are all weak - they're all going to be depreciating against gold - they're all going to be losing purchasing power and so it doesn't matter which one is losing it fastest in terms of gold - they're all going to be going down.  The currencies that are probably going to do a little better are from the countries that are considered commodity exporters like Canada and Australia - those currencies may do well against the dollar, but outside of those they're all under a cloud.

GEOFF CANDY:  Jeffrey, if we look then at what indicators we should be focusing on for a view on the gold price - should we be looking at things like what's been happening in Greece for example as an indicator of where people might go in terms of gold, or are there fundamental factors that we should be paying more attention to?

JEFFREY NICHOLS:  The answer is a little of both.  If we are talking about a US dollar gold price, one of the indicators, or a group of the indicators, that you want to look at are reflective of US monetary policy and fiscal policy too for that matter, because both are linked very closely these days.  Interest rates in the US, particularly if there is a change by the Federal Reserve in the Federal Reserve Funds rate, or in one of the other key policy rates - that could lead to a fairly quick short but steep drop in gold - so that's something you would want to pay attention to.  I don't think we're going to see any drop in US interest rates at least for a while.  Last week's Congressional testimony Federal Reserve chairman Ben Bernanke, once again stressed that it was the intention of the Central Bank to hold rates low for an extended period.  At some point the extended period is going to come to an end. People will in the end focus on the fact that the Federal Reserve is in the position of having to finance the US Federal deficit, which as we all know is growing.  The last Treasury auction, a couple of weeks ago was under subscribed, so Central Banks and other investment institutions that typically hold and buy US Treasury securities were reluctant to continue doing so at the prevailing interest rates.  Therefore, at some point US is going to be in the position of having to witness a rise in long terms interest rates, or the Federal Reserve will have to buy the securities that otherwise would have gone to the private sector and to foreign central banks, centrally monetising the deficit - we will probably see some combination of the two.  That type of development over time is very bullish for gold.

GEOFF CANDY:  Jeffrey, to close, if we look at what's expected out of the US in terms of the jobless rates on Friday - it seems as though gold has been trading on a relatively narrow range - over this week or is expected to do so - what are you seeing in terms of the gold price in the short term, and the more medium to longer term?

JEFFREY NICHOLS: It remains vulnerable in the short term to the flow of US economic news and also to the foreign exchange markets some relaxation of fear about Greece and sovereign risk spreading to other European economies is going to be reflected in the foreign exchange markets, and even though I said that the dollar and gold are delinking, big moves in the currency markets are going to spill over into the gold market in the short term and will be important determinants of what happens in the weeks ahead.  Similarly, the economic news in the US, particularly with regard to unemployment, with regard to consumer prices and essential signs of the economy is improving or not improving, are going to be reflected in the short-term movement of the metal.

GEOFF CANDY:  And the longer term?

JEFFREY NICHOLS:  The longer term - as you know, I am very bullish.  We've had years of very expansionary and inflationary US monetary policy - we have the prospect of ever larger Federal budget deficits that ultimately will be financed by the Federal Reserve through monetary creation which promises to bring depreciation in the dollar both in terms of its foreign exchange rate and in terms of its domestic purchasing power - those are all very positive for gold over the longer run as is the strength of demand that we are going to continue seeing from the Asian economy.  Therefore, I am looking at the end of 2010 to hit the $1500 level - it doesn't mean it's going to hit $1500 and keep rising indefinitely, but we will see $1500 at some point in 2010 - with lots of ups and downs or round a long term up trend - lots of volatility in other words and ultimately in the next few years there is a very good chance we will see $2000, even a good possibility of  $3000 or higher over the next several years reflecting the unprecedented inflationary monetary policy in the US - large Federal budget deficits and rising inflation as a consequence.

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