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« How Far Will The Fed Go? | Main | Gold Stocks Leading The Way In Next Correction »

Rate Cut Brings Light Relief, But!

Gold Chart 28 Jan 08

The three quarter point rate cut arrived like an unexpected bonus payment sending the markets into raptures of approval and reversing an ever steepening down trend. It reminds us of the hit song by The Who; Don't Get Fooled Again!

Our financial system is awash with money and this latest move by Mr Bernake has now made that money cheaper to borrow, thus taking some of the pressure of both the mortgage holders and the banks. It appears to us that these actions are the answer to the problem of liquidity. However the problem is not one of liquidity but one of solvency. In the case of the mortgage holder these measures do not mean much because he/she is insolvent or to put it bluntly, broke. The originators of these deals do not want the party to stop so any relief is welcome, however they are also insolvent so bankruptcy approaches them at a slightly slower speed. We recently revealed that the 'mickey mouse' paper sometimes called CDO's (Collateral Debt Obligations) issued to mask over this mess, had travelled as far as New Zealand and Australia, even though it did take almost six months to surface.

The point is that the problem of solvency has not been addressed, all we have done is given the drunk another drink.

So what does all this mean for the precious metals markets you ask? You may recall that as bullish as we are on this sector, we warned you that gold was historically high when making a simple comparison to golds moving averages. Before this rate cut gold, silver and their associated stocks were heading south which makes for miserable reading when you check your portfolio. The rate cut acted as a boost to the investment community and most market sectors joined in on this euphoric wave of optimism. Its a little early to say for definite, but if you take a look at the charts of some of the gold sectors household names, you will observe the jump in stock price which has been followed by the stocks giving back some of the gains. You could argue that some of these gains were used for profit taking however we are of the opinion that this 'boost' will be short lived. The insolvent bankers and borrowers will once again return to the markets to sell whatever they have left as they called upon to service their debts, so it is not over yet.

Putting this dark cloud to one side we again draw your attention to the chart for gold where you can clearly see that the current price of gold is $890/oz, which is very high compared to its 200dma of $728/oz, a difference of $162/oz. If you look back over 2007 you will see that gold dropped back to its 200dma three times and it could happen again.

In conclusion we are not buyers at the moment and prefer to hold what we have and watch for indications as to the direction of precious metals in general. In the blue corner we have rate cuts which will keep coming and are perceived as a negative for the US Dollar and positive for gold. In the red corner we have an insolvent bunch of bankers and borrowers looking for their next fix. Eventually gold will come out on top as the inept will be shown up for they are, but in the short term go very carefully as these are treacherous waters.

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