A Response to Toby Connor’s Thesis about the Gold Bear Raid

The “gold bear raid” was driven by the TBTF banks in an attempt to amplify their earnings. This is according to a  Toby Connor article on Resource Investor. In short, his thesis was that the TBTFs drove the price down so they could buy lower now so they could sell higher later. stack-of-gold-bullion-coins

Though I do not disagree with Connor’s technical analysis, I think his explanation for why the price of gold plummeted is just too damn complicated. Occams Razor tells us to look for the simplest explanation, and I think there are much simpler explanations than his.

First, the context: the price of gold fell from ~$1800 last October to less than $1300 in June. It’s recovered a bit of that price since then but is still down over 30% from October.  The fundamentals for gold haven’t changed.

In general, the main driver of gold’s price – at least in the West – is the expectation of monetary inflation. The main driver in Asia is simple demand .

Since the Fed is still creating $85B in brand new money every month, there is no change in the expectation that the new money won’t end up sloshing into the marketplace. Asians are still demanding gold in quantities that far outstrips supply, so there is no change from that perspective that would drive the price of gold down.

I think Connor overlooks at least two situations that serve as a better explanation for the drop in the price of gold.

In no particular order, they are:

  1. The disconnect between paper gold and physical gold
  2. Margin calls on big players

Its well-known that the supply of physical gold implied by the volume of “gold-backed” ETFs far exceeds the actual supply of physical. Nevertheless, paper gold has tracked the price of physical since it was introduced. If a big holder of paper deciding that the spread between implied supply and actual supply was just too big to justify, he might just decide to dump his paper. That could start a drop, which could then be exacerbated by other holders getting margin calls.

Suppose some of those getting margin calls were large holders of gold. Cyprus was proof that the Eurocrats will stop at nothing to keep the big banks afloat. Suppose some big hedge fund was massively short the Euro and massively long gold and found themselves on the wrong side of both those trades when the ECB decided to bail-in Cyprus? Or Portugal? Or Spain? Or Italy?

The amount of gold that was dumped on the market tends to argue that someone was reacting in “panic liquidation” mode, not coolly choosing to manipulate the price lower so they could buy a lot more so they could sell it a lot higher. That’s a cool theory, but it’s just too damn complicated to be believed. I’d put my money on forced liquidation due to margin calls.

ES VWAP Trading Idea

I believe the ES wants to close as near the VWAP as possible, so the trade is simple: If the ES is below the VWAP at 3:30, go long. If it’s above the VWAP, go short. Close the trade at 4:00 or when either your profit target or stop-loss triggers are hit – whichever comes first.

free-tag

Here’s a quick-n-dirty idea for trading the ES based on the VWAP.  It’s not really a full-fledged trading strategy yet, but it will be easy to test – something I haven’t done yet – so I am giving it away for free.

The trade opens at 1530pm EST. If the ES is below the VWAP, go long. If it is above the VWAP, go short.

Your profit target is the VWAP. Your stop-loss trigger has to be determined by money management rules. Refer to the 2% rule, which I talk about in my book and which I learned from Van Tharp.

I normally will test the bejeebers out of an idea such as this, but it seems too obvious and so simple that I thought it’d be useful to share it immediately — and maybe screw with some robots along the way.

If someone does backtest this and sees anything remotely positive out of it, drop me a line and I will try to find a more concrete way to calculate a stop-loss. My back-of-the-napkin idea, however is this:

Your stop should be about 1/3rd the size of the profit target. IOW, if the VWAP is 6 points from your entry, then your stop-loss trigger should be two points opposite your profit target from your entry. Position sizing is key here as well. Drop me a line if you want more info on how I would trade this.

Monetary Froth, or How Inflation Deceives Us

Inflation in the US deceives us. Here’s an example.

The two charts below show the S&P 500 monthly closing prices since 1950. The first chart is in raw dollars; the 2nd chart is adjusted for inflation and shows the value of the S&P500 in 2012 dollars.

(I used the BLS’s inflation calculator to do the adjustment. Both charts are logarithmic and use base 10.)


The top chart appears to depict an economy which has been steadily growing, albeit with a few bumps and hiccups along the way. The bottom chart demonstrates that the economy’s growth is not really as steady as we’ve been led to believe and in fact is mostly illusion.

From the high around 1968, (bottom chart, blue arrow), to the low around 1983, the SP500 declined in real terms to levels not seen since 1955. We didn’t recover 1968-level valuations until the early 90s, and didn’t start gaining over those levels till 96. Then we returned to the mid-90s level valuations in 2002 and again in 2008.

The growth periods were from the end of the war till 68, and from 94 to 2000. Everything else is smoke and mirrors.

You can see the economy attempted to recover the 1968 high in the 72-73 time period, but Nixon decoupled the dollar from gold, thus unleashing the hounds of inflation for the next 20 years. The internet boom seemed to result in real growth in the late 90s, but we crashed back to those 68 levels in 2002 and below them in 2008.

Starting in 2001, the Fed lowered interest rates 14 consecutive quarters, driving money out of the bond markets and into equities. When the Fed-induced housing bubble burst in 2008, the Fed then dumped trillions of dollars into the coffers of the Too Big To Fail banks. When that failed to get the economy going, they repeated the folly of the 2002 recession and lowered interest rates back to essentially zero, again detroying the Bond Market and driving money back into equities.

The only actual economic growth this country has experienced since the end of WWII are the years from the end of the war till 1968, plus a little bit of growth in the late 90s. Everything else has been monetary froth.

US Elections 2012

Futures traders predict a Democrat Executive and a GOP Congress in the US 2012 elections. This is about the best that freedom-lovers can hope for.

Polls are notoriously unreliable, but there are better ways to forecast the outcome of the presidential election: InTrade and Iowa Electronic Markets. These are not polling sites – they are electronic futures markets. Real people put real money on the line betting on a particular outcome. As of this date, both sites predict that Obama will be re-elected. As of the moment I am posting this, both markets say there’s a 68% chance he will be re-elected. Both markets also predict a GOP Congress. The chances of a GOP house are between 85-90%. Chances of a GOP Senate are better than even.

This is likely the optimal situation for the cause of liberty in the US. Anytime a single party controls both the Congress and the Executive, liberty is decreased and debt is increased. Our two most recent examples are the 2001-2002 GOP Congress under Bush and the 2009-2010 Democrat Congress under Obama.

The GOP Congress/Executive gave us two endless wars and a new Drug Plan for Seniors that was – until Obamacare – the single largest expansion of government in 40 years. The Democrat Congress gave us Obamacare.

In spite of their rhetoric during the 2008 elections, Democrats didn’t end the wars they inherited from the GOP. In spite of their rhetoric during the 2010 elections, the GOP did not roll-back the size of the government. Both parties will say anything to get elected, and do anything to stay in office.

The cause of liberty is never defended or protected by a one-party government, whether GOP or Democrat. In spite of the fact that the two parties are virtually indistinguishable when governing, they hate each other so much that they tend to focus on fighting one another when the government is split. And that is the best we can hope for.

Which banks are really “Too Big Too Fail”?

Here’s the list, from Economic Policy Journal. Read the brief story. Enjoy. (

  • Belgium: Dexia
  • China: Bank of China
  • France: Banque Populaire, BNP Paribas, Crédit Agricole, Société Générale
  • Germany: Commerzbank, Deutsche Bank
  • Italy: Unicredit
  • Japan: Mitsubishi, Mizuho, Sumitomo Mitsui
  • Netherlands: ING
  • Spain: Santander
  • Sweden: Nordea
  • Switzerland: Credit Suisse, UBS
  • UK: Barclays, HSBC, Lloyds, Royal Bank of Scotland
  • US: Bank of America, Bank of New York Mellon, Citigroup, Goldman Sachs, JP Morgan, Morgan Stanley, State Street, Wells Fargo