With QE3, Some Interesting Facts About Gold

Given that Federal Reserve Chairman Ben "Helicopter Make it Rain Dollar Bills" Bernanke just announced QE3 (quantitative easing) that sent the price of gold higher yesterday, we were sent an interesting infographic with some facts on everyone's favorite precious metal.

For years now, we've highlighted how many prominent hedge fund managers have owned gold in some capacity (either physically, or via proxies like exchange traded funds GLD or IAU).

John Paulson started a gold fund as a bet against the US dollar.  Others bought gold as an uncertainty hedge.  Greenlight Capital's David Einhorn continues to own gold as a top holding.  And Third Point's Dan Loeb continues to own gold as his 2nd largest position.

Here's some notable recent facts about gold:

- Current market value of all gold is $8 trillion

- All available gold is equal to approximately half of the public debt of the USA

- US gold reserves amount to 77% of the national foreign exchange reserves

- China's gold reserves account for only 1.8% of its total reserves

- Annual gold consumption for investment: 1,640 tonnes (about 50 million gold coins)


And here's the infographic:

Source: Trustable Gold

Technical Look at Nike (NKE) & the US Dollar

Adam over at Marketclub recently put out a technical analysis video on Nike (NKE) and he notes an interesting pattern. NKE recently broke out of a trading range and 'energy field' as he calls it. Nike consolidated in early 2009 and formed almost a reverse head and shoulders that helped propel it to new highs recently. Adam points out that the stock should technically have a price target of $90 now based on its move. With Nike currently trading in the mid $70's, that's some impressive upside.

In the video, he thinks shares have compelling risk reward currently as he outlines $72 as a nice level for your stops. If it falls below that level, exit and look for a better opportunity. We'd actually go a step further and put stops right below the gap at $70 as gaps often seem to fill on charts. So, it would make sense for NKE to consolidate back down to that level before resuming its trend higher. You can watch the video here.

Next, Adam examined the US Dollar index and wondered if it is going higher. In his US dollar video analysis, he notes that the dollar has been heading higher overall since 2010 began. He also draws out the pattern of a stair-stepping move where the dollar is exuding cyclical action. Applying that pattern to current dollar trading action, Adam hypothesizes that the dollar has an $83.90 target price, implying further upside to come. He notes that all of his signals are currently bullish (MACD, trade triangles, trend, etc) and to look for the dollar index to hit that price target relatively soon. You can watch the video by clicking the chart below:

Dynamics of Gold, US Dollar & Gold Equities

Since many hedge funds have exposure to gold in some fashion, we're posting up some interesting research from Raymond James on the topic of precious metals. Their commentary was published amidst the massive rally in the US dollar that definitely impacted the performance of gold. Given the action early in the year, they took advantage of the opportunity to look at the dynamic between gold, the US dollar, and gold related companies.

Maybe the most intriguing bit of research was their focus on equity stakes of gold miners and how they performed during the various swings in the price of gold. We note this correlation because while John Paulson's new gold fund will invest in derivatives on the price of gold, the main strategy is to acquire equity stakes in gold miners. Paulson is actually using these equity stakes as a wager against the US dollar. So, while many will examine the dynamic between the US dollar and gold, it is also worth taking a look at how shares of gold miners are affected as well.

If Paulson thinks the US dollar will decline, then he is essentially wagering that the price of gold will increase. More importantly though, it appears as if he thinks equity stakes in gold miners will produce greater returns based on the correlation. But, as you will see from the research below, you also have to look at company specific risk. This comes after Paulson & George Soros recently bought shares of a gold miner.

At any rate, you can examine Raymond James' research below. Of the companies they cover in the space, Aura, Osisko, Great Basin Gold, and San Gold performed the best "on average, across all three post 'risk aversion' rallies." The companies that suffered most over the big gold sell-off were Lake Shore, Golden Star, Aurizon and Yamana. Based on their research, Raymond James favors developers Anatolia and Detour, mid-tier producers San Gold and Crocodile, and large producers Agnico-Eagle and Eldorado.

Embedded below is Raymond James research on the dynamic between gold, the US dollar & gold related companies:



You can directly download a .pdf here.

Raymond James' gold research joins a bevy of other publications that we've posted on the topic of everyone's favorite precious metal. Resources include: global macro hedge fund Woodbine Capital's research on gold, Passport Capital's rationale for owning physical gold, as well as our in-depth look at John Paulson's new gold fund.

Taking A Look At Gold, the US Dollar, & Crude Oil

The guys over at MarketClub just put out three interesting videos covering three hot topics: gold, the US dollar, and crude oil. Let's first start with their coverage of crude oil since it's trading near a crucial level.

Crude Oil

Firstly, Adam checks out the crude oil market and right off the bat he highlights that while crude has been in an overall uptrend since March of this year, the recent decline could be worrisome. He specifically notes the $67 level as crucial seeing how that was the most recent level of major support back in late September. While crude initially traded higher from thos levels, it has since spiraled down and is getting close to testing support. If it takes out $67 to the downside, Adam notes that you should exit the market as support will have broken. You should also note that Adam previously identified a pattern in crude oil where it is sold off every 75 days or so and then was bought right back up again. We're in the midst of one of those downtrend areas right now and buying needs to come in for this pattern to remain in tact. If crude heads lower, it will have breached a support level and nullified this patterned uptrend as well, a definite sign to exit the commodity. Click the chart below to watch the crude oil analysis.




Gold

Secondly, you can see their technical analysis on gold here. Adam feels that it's best for you to just stay out of the precious metal for now if you're not already in it because of what he calls "silly season." He's referring to the period from December 15th until the new year where many traders and money managers simply take off for the holidays. As such, volume in markets decreases and it only takes a little bit of money to really whipsaw things around. Not to mention, they are seeing conflicting indicators on their screen as the weekly trend is going down but their daily indicators are pointing up. These divergences combined with the lack of market participants over the holidays means it's best to sit on your hands they say.

US dollar

Lastly, you can see their analysis of the US dollar here. The dollar has been in a definitive downtrend over the past few months and their monthly indicators have been bearish since May of this year. Their weekly signals on the other hand, have turned up as the dollar has been rallying as of late. While some may interpret this as bullish, they note that trading against the primary trend (which is still down) is not advisable. We'd tend to disagree with him on this point as illustrated in the chart below you can see that the dollar has clearly broken out of its downtrend (green line) from the past few months. Not to mention, it is now trading above its 50 day moving average (blue line) and both the RSI and MACD are heading higher.



To his credit, Adam highlights the potential divergence in the MACD as its been slowly building higher since June. This means that the dollar is definitely something to keep an eye on in his view, but until the primary trend reverses, he thinks it's best to sit on the sidelines. We're obviously starting to see a common theme here in staying on the sidelines. It's typically not worth the risk of playing around in the anemic holiday markets. Conflicting signals and lack of true trading participants going into the holidays means you should probably avoid getting whipsawed around. Overall, Adam took at a look at some hotly traded assets but conceded that maybe it's best to just not trade them at all until the new year and we can't argue there.

John Paulson's Gold Fund: Betting Against the US Dollar

By now you are undoubtedly aware that John Paulson's hedge fund firm Paulson & Co is set to launch a gold fund. We wanted to take a minute to investigate things on a deeper level and examine why he is doing so and why now. Simply put, Paulson & Co is betting on the devaluation of the US dollar. They see inflation in the cards for the future and are positioning themselves accordingly. The fund is set to launch in January and John Paulson will personally invest $250 million into the fund.

This is notable not for the wager on inflation, but for the vehicle they have selected to hedge their exposure. Many prominent hedge funds and market gurus have previously warned of inflation and have shorted long-term US treasuries. One of the original hedgies Michael Steinhardt himself has called treasuries foolish. Legendary investor and ex-Quantum fund manager Jim Rogers shares this sentiment and dislikes treasuries. Hedge fund legend Julian Robertson is betting on higher interest rates and is doing so via constant maturity swaps (CMS). We also note that John Paulson's former colleague Paolo Pellegrini has also taken an inflationary stance. Instead of playing gold, Pellegrini's hedge fund PSQR had previously been shorting treasuries and longing oil. We could go on and on but the main point is that there are some prominent and smart minds betting on inflation. While many of them share the same ideas on the topic of inflation, they've used a myriad of investment vehicles to execute their call. John Paulson has taken a slightly different approach to his inflationary bet and here's why.

The Introduction

Paulson's wager on gold is by no means new information. After all, Paulson's current hedge funds hold over $4.3 billion of gold related investments. And as we have pointed out in the past, this exposure is purely to hedge their US dollar exposure as one of their other hedge funds has a share class denominated in gold. Paulson's conviction in gold related investments has undoubtedly risen. After all, why else would he be launching a hedge fund dedicated to investing solely in gold related entities? The creation of Paulson's fund traces an eerily similar pattern to one of his prior hedge fund launches where he crafted an idea, launched a hedge fund based on that idea, and then made billions. (We're talking of course about his large bet against subprime). Paulson has made his next large bet and his new gold fund is the vehicle by which you can join him on the ride. His gold fund's objective "is to outperform gold price in a rising gold price environment." They will pursue this by investing in gold equities that are levered to the price of gold, as well as derivatives on the price of gold. Can Paulson be successful on two big bets back to back? We'll have to wait and see.

The Gold Thesis

According to recent presentations from Paulson & Co, their thesis for gold is threefold. Firstly, they believe that the printing presses of money that have been working overtime in America and other countries will cause depreciation in paper currency. Secondly, they believe that demand for gold will increase, particularly as a reserve currency. In fact, they think gold could become the primary reserve currency again as they have been looking at gold as currency, not a commodity. Thirdly, their belief is that demand for gold in general will be far greater than supply, causing prices to head higher. Overall, they see a very high probability of inflation in America's future and have selected gold related investments to hedge against this.

Ben Bernanke's Printing Presses

Looking further, Paulson & Co highlights that the monetary base has expanded to an absolutely exponential degree. According to the Federal Reserve, typical year over year changes in monetary base were under 20%. When the crisis occurred, that year over year change skyrocketed to 128%. Additionally, the correlation between the monetary base and money supply is very close, almost 1:1 as the monetary base finds its way to the money supply. In turn, unit money supply then is also highly correlated to the GDP price index, nearly a 1:1 correlation again. Paulson & Co's main argument here is that the monetary base has expanded dramatically, yet the money supply growth hasn't yet expanded. This is due to the fact that the velocity of money dropped furiously after the collapse of Lehman Brothers. Once money supply expands, look out for inflation.

Bolstering their argument, Paulson has also cited inflationary outlooks issued by the likes of former St. Louis Fed President William Poole, Harvard Professor of Economics and President Emeritus Dr. Martin Feldstein, and many more. Obviously they are not alone in their fears here. While America has taken center stage for their Central Bank balance sheet expansion, other countries' balance sheets have become just as bloated. From late 2008 until Q2 2009, the US Federal Reserve has expanded their balance sheet by 119%, the Bank of England's has expanded by 127%, the Swiss National Bank's has increased by 80%, and the European Central Bank's balance sheet has seen a 39% increase.

In the end, the crux of this part of their argument for inflation centers around money supply. Historically, inflation has lagged money supply growth by 2 to 3 years. So the lesson is that when you have money supply growth, inflation is just around the corner. And, gold has historically held its value and/or appreciated in times of inflation.

Rising Demand

To those pointing toward gold as a crowded trade or bubble, Paulson & Co argue that there has been vast appetite for gold, particularly in the popular exchange traded fund GLD. While the holdings of this ETF were only recently around $57 billion, the total pool of US money market reserves was a massive $3,850 billion. They imply that this leaves a vast amount of room for savers to shift away from paltry money market rates and into gold. Not to mention, Paulson's hedge fund actually expects central banks to turn into net buyers of gold in 2010. We've already seen signs of this as India's appetite for gold has heartily increased lately. It seems that the central banks have concluded they should not sell assets that are appreciating (gold) in order to buy assets that are depreciating (US dollar).

Gold has been on a rampage the past few months, breaking above the $1,000 technical and psychological level and heading even higher. The question now becomes, what's next for gold? Check out this video on gold to see logical pullback areas, price targets for gold's move higher, as well as where to place your stops. One thing's for certain: investors have definitely had more of an appetite for the precious metal as of late.

The Strategy

Curiously enough, it appears that Paulson's gold fund will actually not buy any physical gold. Instead, they will play inflation via gold equities as well as derivatives on the price of gold. The derivatives portion of their book has not been put on yet but they will target it to be slightly over 15% of their portfolio by using long-dated options. So, the vast majority of their gold fund will be comprised of gold equities. Some of Paulson & Co's other hedge funds already have large exposure to specific gold miners such as Anglogold Ashanti. They've selected this strategy for greater potential upside as they think gold equities will actually benefit most should gold prices stay flat or continue to rise.

Risks

As with any trade, there are always risks. Paulson's hedge fund has identified volatility, timing, price, and confiscation as potential risks to this play. In regards to timing, there is seemingly always a lag in when exactly inflation hits. It is usually a domino effect as the monetary base expands, then the money supply expands, and then you see inflation. The risk from their perspective is that it could take three to five years before we see any true signs of inflation. In regards to potential deflation in the price of gold, they identify the risks of a decline in industrial demand (jewelry etc), sales by central banks, and an increase in supply. Lastly, they identify confiscation by central banks as a threat. However, this scenario would essentially require the presence of hyperinflation and at that point the price of gold would be sky high.

A Winning Trade For Paulson

Regardless of gold's potential price appreciation, Paulson has already won on this trade. Why, you ask? Well, nowadays John Paulson is an investment icon and everyone wants to invest with him. He is already in the trade in some of his other hedge funds and soon will be with his gold fund. Not to mention, numerous other prominent hedgies are singing the praises of gold as of late. As others begin to filter into the trade and warm up to its potential, Paulson's play benefits. As our friend on Twitter mojakus puts it, Paulson can "ride the wave of wider recognition of the trade's merits. (It) doesn't really need to work out for him to mint it."

Paulson & Co don't necessarily need the trade to be realized, but rather they just need others to recognize the risk. They don't need gold prices to go higher, they only need others to recognize the potential for prices to head higher. After all, Paulson will charge a 1.5% management fee and a 20% performance fee in his gold fund with a $10 million minimum investment. As we posted on our Twitter, a massive rush of investors into gold funds could signify a top, but Paulson & Co obviously won't turn down receiving a nice set of fees for investing your cash into gold equities and derivatives.

This all comes on the heels of Paulson's huge bet against subprime over the past few years. Wall Street Journal columnist Gregory Zuckerman has detailed Paulson's amazing play in The Greatest Trade Ever, his new book (see our review here). Can Paulson do it again with his wager against the US dollar? It certainly would be quite the feat to nail two major trades in such a short span of time.

Hedgies Like Gold

As we've covered previously, hedge fund colleague David Einhorn of Greenlight Capital is positioning himself to benefit from the printing presses of the US and other governments. Einhorn is bullish on gold as well and has actually shifted from using the exchange traded fund GLD for his position to storing physical gold. So while Einhorn prefers physical gold instead of gold miners ala Paulson, the bottom line is they both have identified quantitative easing as a major inflationary threat going forward. As such, they are positioning themselves to benefit by what they deem to be the most beneficial way.

The Debate Continues

The inflation versus deflation argument rolls on and is shaping up to be quite the investment battlefield. With his gold hedge fund launch, John Paulson has planted himself firmly in the inflation camp. In the other corner, PIMCO's bond vigilante Bill Gross is betting on deflation. While the outcome could still be a few years away, it's interesting to see the wagers and investment vehicles selected by various notable investors. Slowly but surely the prominent names in the industry are placing their bets. Which side are you on?

For more on John Paulson's hedge fund firm, check out The Greatest Trade Ever as well as Paulson's recent position updates.

Todd Harrison Talks Dollar and Oil

Great brief interview by Aaron Task over at Yahoo Tech Ticker from last week. Todd Harrison (Minyanville.com) thinks the Dollar has begun a sustainable rally. And, he also believes $110 is major support for oil while $130 is major resistance. And, that becomes all the more important seeing as how Oil is down $7 today and is now below that $110 threshold. Hear all his thoughts here.

The U.S. Dollar Going Forward

Courtesy of the Federal Reserve Board we see an interesting chart depicting the decline of the US Dollar as well as its impact on the price of crude oil. Seeing the price of crude oil charted in other currencies really puts into perspective just how much the weak dollar has helped commodities. Sure, much of the commodity story has been fundamentally driven. But, the dollar has undoubtedly played a role in the rise of commodities.

The question I pose now is: Where is the Dollar heading longer term? Shorting the US Dollar became a crowded trade very quickly. And, with the right set of catalysts (as we've seen recently), the Dollar can indeed rally. But, is this rally really a turn-around, or rather just a counter-trend rally. The fed seems poised to raise rates in their coming meetings. The ECB seems concerned with growth rather than inflation currently. Both point to a bullish future for the Dollar. But, I still have to believe that this is merely a counter-trend rally within a longer term downtrend.

Much damage has been done to the dollar over the years. Just look at the chart, it speaks volumes. From 2002 until present, the dollar has really done nothing but decline in value. Sure, there are some rallies here and there. But, they are very short lived. It rallies up to the downward sloping trendline only to decline yet again. The only time where the dollar really held its own was during the years 2005 and 2006. During these years the dollar traded sideways for the most part. And, I think we are setting up for the Dollar to trade sideways for a longer period of time. While we cannot predict the future, we do know that the Fed can only do so much with their rate increases. What happens after they are done with their cycle? We'll obviously have to address this as the currency market continues to unfold. While I think the dollar can (and probably will) see a substantial rally in the coming months, I still believe it is just a reversion to the mean within the context of the broader picture. After the rally secedes, we could very well see a period of stagnation.