Value versus momentum and the gold price

For many commentators there are two distinct camps in the gold market: investors in bullion and speculators in the paper market. With the two markets pulling in different directions some dealers think it is only a matter of time before derivatives fail completely and the price of gold will rocket on physical demand.

That two ends of one market are in conflict and one will win over the other is a tempting conclusion, but this is unhelpful. The conflict is more about two different types of investor: there are those who buy or sell on grounds of value and momentum investors who deal on the trend. It is the market structure that tends to corral them into different camps. Value investors generally go for physical metal, while momentum investors go for derivatives.

Their motivations are different. Value investors include buyers of physical gold from all over the world, commonly seeking value or security compared with holding fiat currency. Speculators in the futures markets rarely evaluate the price of gold, assuming the current price is the only valid reference point that matters. This bifurcation between value and momentum is a common feature from time to time in nearly all capital markets. We saw it in equities during the dot-com boom, when value investors were embarrassed before momentum investors were eventually crushed. However, both classes of investor always fish in the same pool.

Futures are the principal channel for momentum-chasers in gold, with very few of them interested in questioning value; and with the rise of the hedge fund industry the amount of money and credit available to this class is substantial. It is hardly surprising that critics feel derivative markets are depressing the gold price, but they ignore the fact that the current price in any market is the point where supply and demand finds a balance.

There are above-ground stocks of gold amounting to about 160,000 tonnes, and new mine supply increases this at about 1.7% per annum. Theoretically, all this gold is available for sale at some price; equally these quantities are an indication of the scale of underlying interest. If momentum investors think there is a case for lower gold prices they should make it after taking this into account. Trying to make this judgement in such an opaque market is never going to be simple, which is why they rarely try to do so.

The answer is to identify so far as possible the location of all investment gold as a first step to understanding prospects for the market. We can only conclude there is very little of it in investment form in private hands in the West, the bulk of it having been bought up by Asian buyers. The amount of ETF liquidation has been wholly insufficient to satisfy this demand, so by deduction central banks must have been supplying the markets with large quantities, because there is no other source of supply.

Therefore the key to future gold prices comes down to the point in time at which central banks stop supplying the market; not some sudden crisis between value investors in the East and momentum chasers in the West. That is to confuse cause with effect.

This article was previously published at

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6 replies on “Value versus momentum and the gold price”
  1. says: Paul Marks

    Here we leave the world of economic theory and enter the hard world of investing.

    “Sometime” is all economic theory tells us about when the gold price suppression (by the Central Banks and the rest of the establishment) will fail – it does not tell us WHEN it will fail.

    Investing demands a specific WHEN.

    Will the gold price suppression fail in the coming year – yes or no? That is the question that investment demands an answer to.

    My answer is “yes it (the gold price suppression) will fail in the coming year – gold is a good buy, buy gold”.

    Let us see if I am right or wrong.

  2. says: MrVeryAngry

    I think this misses the fundamental point of gold; it is the ultimate liquidity. It is the only global universal money. And the fluctuations in its price are actually fluctuations in the price of the currencies which gold buyere and sellers are working in. The ‘price’ of gold is very stable over time, what has changed (collapsed?) is the ‘price’ (or confidence in?) fiat currencies. As governments have inflated away the value of their centrally planned money, so the value of those currencies has fallen. Investor or speculators in the gold markets are essentially hedging this inflation and trying to spot moments when their currencies are under or over priced. This is a practical impossibility – it is impossible to consistently time markets.

  3. says: chuck martel

    Society in general and investors in particular have come to accept some degree of inflation as normal life, akin to the daily appearance of the sun, without reflecting on the fact that it is engineered by central banks. Since anyone with savings wishes to at the very least maintain the value of those savings or, hopefully, increase them, they will consider various investment opportunities with that goal in mind. These investment opportunities involve placing funds with third parties who then employ them in myriad schemes, some of which are more successful than others but all of which result in the third party taking a share of the play. This is why inflationary policy exists. Without some level of inflation many savers would have no incentive to pay fees to allow third parties to risk their capital, to the detriment of the financial industry and its ancillary BMW and Rolex dealerships.

    A gold ETF, for instance, is a creation meant to siphon off a percentage of the funds made available by investors speculating on inflation but still operating in the fiat money universe. Someone that takes physical delivery of gold pays a delivery charge once and then retains it as insurance in case of fiat money collapse. He’s not funding a broker’s vacation to the Seychelles.

    1. ‘Accepting inflation’ is like accepting ‘bullying’, ‘racism’ and that Keynesians are ‘too wrong to succeed’. Krugman’s ‘more liquidity’ tosh means he never has to prove his case. Think about it…

  4. says: MrVeryAngry

    Chuck Martel

    Quite, about Gold ETF’s.

    But, other investments, mutual funds for example, would still attract investors who wish to access a share of real wealth creation. But I agree that absence of ‘inflation’ would put serious pressure on adviser and manager fees. Good. (And I am in the business!!)

  5. says: Paul Marks

    Quite so Chuck.

    Economic debate is conducted at an incredibly low level. For example the Great Depression will either by be explained in terms of “Wall Street and Corporate greed” (“animal spirits” the “mainstream” view) or a “collapse in the money supply” (the Friedmanite alternative) as if evil “deflation” elves broke into the bank vaults and made the money (the money that was never really there) vanish.

    Either way the “answer” is government interventionism – either action to counter “corporate greed” and “monopoly” (yes I know government intervention is the life blood of cartels – but the “mainstream” deny this), or government intervention to “maintain the money supply” (prop up the credit bubble).

    It is all rather depressing.

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