Latest from Brien Lundin
Friday, March 14, 2014

Russian Roulette

They’re telling us that gold is rising because of the crisis in Ukraine and economic uncertainty in China.

But there may be another reason altogether — that Russia is poised to use gold as a weapon of economic war against the G-7 nations.

Dear Abe,

Gold’s continuing surge higher has been impressive. This week, it’s set new six-month highs day after day.

But equally as impressive as the extent of this rally has been the lack of apparent fundamentals underpinning the move.

Yes, I know, gold is rising on a wave of “safe haven” demand in reaction to the crisis in the Ukraine. Yesterday’s downdraft in U.S. equities, and gold’s rebound from an early-session loss to a position solidly in the green, certainly argue that the fear factor is dominating investment decision-making at the moment.

But, like many simple explanations, I believe this excuse for gold’s strength is overblown. The “safe haven” catch phrase has become at best a crutch for ill-informed pundits trying to justify a rise in gold, and at worst a canard that distracts from important underlying factors at work.

Right now, it’s somewhere in between.

We can’t ignore the effect of Putin’s occupation of Crimea on the world markets. Wednesday’s statement by the G-7, warning that a Russian annexation of Crimea would prompt the G-7 nations to “take further action, individually and collectively,” undoubtedly helped fuel gold’s big move.

Yesterday, the pressure was ratcheted higher as German Chancellor Angela Merkel, in a surprisingly harsh speech to parliament, warned that “If Russia continues with its policy of the past weeks, then this wouldn’t only be a disaster for Ukraine. We as neighboring states would also regard this as a threat. This wouldn’t only change the relationship between the European Union as a whole to Russia, but would also, and I am deeply convinced of this, massively damage Russia economically and politically.”

So, the stakes have been raised. The threatened G-7 sanctions, although unspecified, would be the first placed against Russia since the Cold War.

Some have voiced concerns that Putin would retaliate by dumping U.S. dollar reserves and bonds, but that seems unlikely since such sales would greatly damage the value of Russian reserve holdings and, more broadly, their fragile economy in general.

But here’s the alternative that few are considering: Russia could begin demanding payment for oil, gas and other exports in gold rather than the U.S. dollar.

Of course, this would also weaken the dollar and send interest rates soaring, thereby decreasing the value of Russia’s dollar reserves.

But when the price of gold sky-rocketed as a result, Russia’s growing gold reserves would also soar in value.

**And don’t think that Putin and his cronies wouldn’t personally profit from this strategy. I have no doubt that they would load up on highly leveraged gold options before they switched to gold payments for their oil and gas.**

Think about it: They almost assuredly pocketed huge returns by shorting world stock indices in advance of the surge into Crimea.

They’re making fools of the West by beating them at their own game. And forcing their energy customers to a de facto gold standard would be a brilliant next move.

I’m not saying it’s going to happen. What I am saying is that it’s entirely possible...

...And you can bet with Putin by making sure you’re positioned in gold right now.

But that’s not the only reason to buy gold.

A World
On Edge

As I said, gold’s gains have been largely attributed to the Ukraine and other fear-inducing factors. In addition to Russia’s saber-wielding, analysts are also blaming concerns over China’s economic future, prompted by the first corporate bond default in the nation, slowing credit growth, weakness in the yuan and the dramatic drop in the price of copper.

Other than the bond default, however, all the other factors are arguably bearish for gold. A weaker yuan, especially, would tend to raise the local price of gold and depress demand from price-sensitive Chinese buyers.

In light of all this, it seems to me that there are other factors driving gold — an underlying strength that’s largely unrelated to the current geopolitical concerns.

Even before the Russian invasion of Crimea, we saw gold ETF flows reverse, from the outflows so common last year to inflows as Western investors began buying again. And from the start of the new year, we’ve seen Asian gold demand, particularly from China, continue at record or near-record levels.

As I noted in our last issue of Golden Opportunities, this bodes well for gold in the near term, as the most powerful gold rallies over the last decade or so have come when the Western and Eastern markets have both been buying, for whatever reason.

It’s easy to see why Asians are buying gold. A cultural affinity for the metal as a means of savings and wealth preservation, coupled with rising incomes, rising inflation, economic uncertainty and, at least in the case of China, government encouragement, are all contributing to demand.

Last year’s price decline led to increased demand from these price-sensitive markets, as expected. But the level of Asian buying has remained quite robust and consistent, which has been somewhat surprising.

So why are Western investors buying now? That’s harder to pin down. From one respect, gold didn’t need Western speculators to start buying for a recovery to take hold; it only needed them to lay off the unconstrained selling that characterized last year’s market.

So the simple turning of the calendar, allowing those speculators to cover short trades and book profits in the new year, helped somewhat.

Then, with Asian buying continuing apace and the economic data showing some inconsistency, there was little reason for specs to open new short trades.

But there may be more afoot. Like most liquid investment markets, gold is a predictive mechanism. Rather than reacting to the flow of economic data, gold may be forecasting an economic slowdown and renewed monetary reflation down the road.

...And it may be reacting to the aforementioned possibility of Russia demanding gold to settle trading accounts.)

We’ll see over the next few months, with the monthly U.S. employment data being particularly important in determining if the weather was an overbearing factor on the recent economic weakness.

Over the near term, with the Ukraine situation still boiling and with gold showing underlying strength independent of the geopolitical issues, the metal has a strong bias to the upside.

Looking at the charts, gold appears to be taking direct aim on the important $1,400 level.

More important is overhead resistance at the highs set a bit more than six months ago, in late August, around the $1,417 level. This was where the rally that followed the first, late-June bottom peaked. For the recent “double-bottom” formation to prove truly significant, gold will have to continue past this prior peak.

If it does, then $1,450 would be the next psychological target. Following that, the metal could take aim to break through a long-term downtrend line around $1,550.

But let’s not get ahead of ourselves. As impressive as gold’s run has been, the real moves have been in the junior resource sector, which has exploded off of the bombed-out levels of late last year.


In the meantime, make sure you’re adequately positioned in gold, silver and top-quality mining stocks.

All the best,

Brien Lundin
President and CEO, New Orleans Investment Conference
Editor, Gold Newsletter

Brien Lundin is the editor and publisher of Gold Newsletter, a publication that has ranked among the world's leading precious metals and resource stock advisories since 1971. To learn more about Gold Newsletter, visit www.goldnewsletter.com. Mr. Lundin is also the host of the famed New Orleans Investment Conference, the world's oldest and most respected gold investment event. To learn more, visit www.neworleansconference.com.