Institutional Investors Are Selling Gold

| March 14, 2012

I’ve got bad news for gold bugs… gold is in a bubble.

Before you send me a scathing email about why I’m an idiot, let me explain…

You see, I don’t hate gold.  I’m just as happy to make money investing in gold as I am in stocks, bonds, or any other asset for that matter.

My only problem with the shiny yellow metal is that it’s difficult to value.

Really…

How do you value gold?

Sure, it’s nice to look at.  But gold doesn’t have many practical uses.  And it doesn’t actually produce anything.  Its major use is for investment purposes.

I’ve seen or heard just about every gold valuation theory there is.  And I’m sure you’ve heard them all before too…

For instance, there’s a theory that gold prices should keep up with the pace of inflation.  This method says if gold hit a high of $850 per ounce in 1980, then it should be worth about $2,000 today based on inflation alone.

The only problem with the theory is the 1980 high is an arbitrary point. Who’s to say that gold was fairly valued when it reached $850 back then?  (It wasn’t…)

Other gold valuation theories try to measure gold relative to the stock market or to the number of US Dollars floating around.  But those theories don’t stack up either.

The reality is the value of gold versus inflation, stocks, and dollars has fluctuated wildly over different time frames.

In other words, when you get right down to it, gold has very little value.  The only reason gold investors are willing to buy it is because they hope to sell it to someone else at a higher price later.

But here’s the thing… Gold’s still a commodity.  It’s subject to the laws of supply and demand.

Here’s where things start to get scary…

Gold miners are constantly supplying more gold.  In 2010, mines produced 2,689 tons of gold.  At the current price of gold, that’s about $160 billion of new supply that must be absorbed just to maintain the current price.

Who’s going to buy all that gold?

Needless to say, it’s a combination of investor and central bank buying that has helped boost gold to its recent highs.

Investors of all shapes and sizes have plowed boatloads of money into ETFs like the SPDR Gold Trust (GLD).  In fact, ETFs backed by physical gold recently reached a record high of 2,356 tons.

But here’s the thing…

It’s not the smart money buying gold.  A laundry list of the biggest gold investors spent the second half of 2011 selling gold.  According to Bloomberg, hedge-fund holdings in GLD fell $660 million last quarter.

John Paulson, who manages a $23 billion fund, slashed his GLD holdings by more than 15% in the fourth quarter.  All in all, his GLD holdings shrank by more than 45% in the second half of the year.  And the list goes on and on…

This is clear evidence the smart money is cashing in as the dumb money jumps on the gold bandwagon.

Now, gold bulls might point out the smart money sales were offset by an uptick in central bank purchases.  In fact, the final figures are expected to show gold purchases by central banks hit 450 tons in 2011.

But according to the World Gold Council, this is the first year in a “generation” that central banks as a whole have added to their gold reserves.

That doesn’t sound good to me…

A one off gold buying binge that happens once every generation isn’t something gold investors should count on repeating this year.

In fact, central banks are much more likely to resume selling gold in 2012.

No question about it, the price of gold is on shaky ground.  It’s time for prudent investors to jump off the gold bandwagon before the bubble bursts.

The smart money is already cashing in their gold.  Don’t get caught holding the bag when the price of gold comes crashing down.

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Category: Currency Trading

About the Author ()

Corey Williams is the editor of Sector ETF Trader, an investment advisory service focused on profiting from ETFs and the economic cycle. Under Corey’s leadership, the Sector ETF Trader has become one of the most popular and successful ETF advisories around. In addition to his groundbreaking service, Corey is the lead contributor to ETF Trading Research, where he shares his insights about ETFs and financial markets on a daily basis. He’s also a regular contributor to the Dynamic Wealth Report and the editor of one the hottest option trading services around – Elite Option Trader.

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