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Is this the right time to buy Gold? - Outside View

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Is this the right time to buy Gold?
Jul 10, 2010

Gold markets saw a steep fall in prices recently with prices of this precious metal falling by almost $40 on a single day and still moving lower.

Now, what next?

Now that gold prices have fallen by almost 5% from the peak, should one look at buying gold now or wait further for the price to decline further? The recent correction (fall in gold price levels) coincides with historic seasonal patterns in gold. The price corrections observed during the seasonally lull period of June - July tends to make an opportune time to buy gold, although in hindsight. It has been observed, over the years, that a gold rush (August to December) follows the seasonal doldrums (June - July). The charts below will illustrate the point better. We have tracked the seasonal behavior of Gold prices, most of which show a dip in the months of June - July with an upward spike from August onwards.

Seasonal Pattern identified:
Source: Bloomberg

As seen above, the seasonality pattern does work over many years with 2008 being an exception. 2008 saw one of the biggest financial crisis unfold during the year. In that year, Gold prices actually surged in June and July as investors rushed to buy gold to protect themselves, as the Bear Stearns collapse ignited concerns over the stability of financial markets and the banking system. Later, as Lehman, there was panic selling in equity markets. The financial tsunami didn't differentiate between good and bad; causing a heavy decline in gold prices amid widespread financial liquidations of derivative positions in a move to raise cash. Later on as selling pressure eased, gold prices rallied.

Long term seasonal pattern:

Even on a longer term basis, this seasonality does seem to prevail. Let's take a long term look at a gold seasonal chart to find out whether this seasonal pattern is not just an evolution of the current Bull Run.

The chart given below is a seasonal chart of gold prices over the last 40 years. It covers the entire period since gold prices were freed from the dollar peg i.e. time since President Nixon abandoned the fixed exchange rate between gold and the U.S. dollar in 1971. The chart is rebased to 100 at the start of the year.

Source: www.seasonalcharts.com

As seen above, gold prices tend to shoot higher following a dip in June - July period. From the declines in the midyear, gold prices tend to rise by almost 6-7% by the end of the year.

All those who are looking at entry points or buying on dips, this could be time to buy some gold before prices start moving post July based on above given seasonality.

Also, fundamentally nothing has changed for gold other than it being available at a lower price now.

The price of Gold has fallen due to a short term rise in the Euro, currency traders are now reversing their trades causing a short term drop in Gold prices.

For the long term however, the issues surrounding continuing deficits and unsustainable amounts of debt loads in the western world has found no answers yet. As we have discussed before, you cannot solve debt problems by issuing more debt. Also, risks surrounding slowing economic growth are increasing by the day. Governments continue to deal with financial and economic problems by doling out money through massive stimulus efforts in the form of bailouts, deficit spending, and eventually printing money, this leads to dwindling faith in fiat paper currencies. Going forward, people would realize that they would have to bear the burden of these monetary excesses through higher taxes or hyper inflation.

In such a scenario, would people continue to accumulate paper currencies which can be freely printed by governments in any quantity they wish for or to be in Gold which cannot be printed by governments?

So while a midyear seasonal correction remains a possibility, fundamental factors acting within the gold market suggest pull-backs may be short lived, if they occur.

Keep accumulating gold on any declines...

The Golden Truth is authored by Chirag Mehta. Chirag is Fund Manager - Commodities at Quantum Mutual Fund. Views expressed in this article are entirely those of the author and should not be regarded as views of Quantum Mutual Fund, Quantum Asset Management Company Private Limited and Equitymaster. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Equitymaster has not verified the facts contained in this column and it does not accept any responsibility for the same. Please read the detailed Terms of Use of the web site.

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