After today, there are only two trading days remaining until the August 2nd deadline, when the US Treasury will no longer be able to meet its obligations if no deal is made to increase the debt ceiling. Gold saw some selling pressure this morning as traders took profits and raised cash ahead of a weekend that is likely to be riddled with uncertainty. That said, the metal still maintains a bullish technical posture, and is close to strong support at $1600 per ounce. Don’t be surprised to see some bargain hunting today as investors buy gold while prices have dipped down below $1610.
In Washington, both houses of congress are shoring up support for competing plans to increase the nation’s borrowing limits. At this point, neither the Senate nor the House of Representatives can agree internally on the terms of the deal. Even if enough votes are gathered in the House, their bill will be dead on arrival when it goes to the Senate for approval. Even if the Senate were, in some drastic change of heart, to approve the bill, the President has vowed to veto it. In short, with only a handful of days left to find a solution, there is no indication that any resolution is on the table that has the slightest chance of passing.
So how does the gold price fit into all this mess? First off, the metal has tacked on nearly 40% as compared to a year ago. The more uncertainty to be seen in global stock and bond markets, the more attractive gold will look. So there is little chance that there will be significant, long-term selling pressure in the gold market so long as the world’s finances are in such disarray.
Remember that the gold price does not exist in a vacuum. Its upside potential is determined by the downside risk to other markets from which gold is seen as a safe haven. Thus, the global downside risk is the single biggest driving factor for gold. When you think about it, there is as much or more global risk now than there was even five years ago. Thus, given a longer time horizon, gold is as good a bet at $1600 per ounce as it was at $500 per ounce in 2006. That may be counter intuitive, but think how many people were quick to say that $1000 gold was way too expensive. Likewise, with a long-term perspective, $1600 gold is cheap because other markets are in peril.
Then there is the short term picture. Looking forward to next week, there are only two outcomes that can come of this debt ceiling debacle. First, if there is no agreement reached (which is looking increasingly likely), all bets are off as to how high gold could go. With instant US credit downgrades, rising interest rates, massive ripples through the bond market, and the potential for forced selling of US Treasury Bonds, the title wave of negative repercussions could catapult gold much higher in a matter of hours.
Otherwise let’s assume a deal is reached. In that case, there could be short term selling pressure on gold. The question then is how much selling pressure would be seen and for how long would it last? Don’t forget that the European Debt crisis looms in the background to pick up the pieces. Just a couple weeks ago, it was widely assumed that a deal would be struck here in the states and gold had already neared $1600 per ounce on buying caused by other perceived risks. Add to that the fact that Washington has proven to global investors that even a simple increase of borrowing limits causes a complete meltdown of our political system, which is for all intents and purposes completely incapable of action. Thus, even if a debt deal is struck in the next four days, the world is certainly no safer for investors than it was a couple weeks ago. It’s safe to say the short term downside risk for gold is probably relatively low.
There are very few times in which investors can participate in a market that simultaneously has the potential for explosive gains (if no deal is struck) and has limited downside risk (if they do raise the debt ceiling). Couple that with the fact that this morning’s sell off has positioned gold at a discounted price point, and today looks to be a very strong entry point for investors with a mid to long term horizon. There are no sure bets in this business, but in my opinion, this is about as close as it gets. Sure we could come in next week and see lower prices, but we could also come in and see massive gains as the American financial system melts down before our eyes. Personally, I’d rather see the gold I bought this week go down a bit if a deal is struck, than watch the gold I didn’t buy this week go shooting up while the rest of my portfolio takes a beating.