Don't Fear a Pullback in Prices

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Recently by Frank Holmes: China in the Year of the Rabbit

     

The S&P credit agency sent shockwaves through the global financial system on Monday when it issued a warning on U.S. debt and changed its outlook on the U.S. sovereign credit rating from “stable” to “negative.” This sent markets lower and the prices of commodities such as oil rocketing back above $110 per barrel and both gold and silver to new highs.

It should be clear the S&P announcement was just a warning, not a lowering of the U.S. debt rating, which was affirmed at AAA (the highest level possible). The fears quickly subsided and U.S. markets hit fresh three-year highs. Essentially there’s only a one-third chance of a downgrade and anyone who’s ever listened to the weather man knows that a 33 percent chance of rain means you probably don’t need your umbrella.

However, the warning validates what we already know: The U.S. needs a plan to address its debt and budget issues…and fast. Due to the fact that future fiscal austerity measures will likely act as a drag on the economy, we also think this opens the door for a third round of quantitative easing (QE3) heading into next year so we’ll have to keep an eye on Bernanke and the Federal Reserve’s next move.

These factors will likely produce downward pressure on the U.S. dollar and upward pressure on commodity prices. This is why we emphatically believe the bull cycle for gold still has a long way to run. (Read: The Bedrock of the Gold Bull Rally).

Last week, one of my fellow presenters at the Denver Gold Group’s European Gold Forum was Dr. Martin Murenbeeld from Dundee Wealth who put the notion of a “gold bubble” in context with the following chart.

If you compare the current bull cycle for gold against gold’s run from the 1970s and 1980s, you can see that today’s run has been slow and steady. It’s also missing the sharp spikes typical of a bubble.

Also, a key difference in this gradual move higher is the growing affluence of the developing world. There people have traditionally turned to gold as a store of wealth and we are seeing that in unprecedented numbers in countries such as China and India.

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Frank Holmes is chief executive officer and chief investment officer of U.S. Global Investors Inc. The company is a registered investment adviser that manages approximately $4.8 billion in 13 no-load mutual funds and for other advisory clients. A Toronto native, he bought a controlling interest in U.S. Global Investors in 1989, after an accomplished career in Canada's capital markets. His specialized knowledge gives him expertise in resource-based industries and money management.

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