Will the Gold and Silver Smackdown Deter Investors?

Source: Eric McWhinnie, Wall St. Cheat Sheet  (3/2/12)

"Although gold and silver receive more than their fair share of selling pressure, they continue to remain the best option to preserve wealth."


Leap Day was very unkind to precious metals. The extra trading day in February delivered gold and silver their biggest one-day loss this year. Gold for April delivery fell $100 before closing down $77.10 and settling at $1,720 per ounce (oz). Meanwhile, silver for March delivery plummeted $2.56 to close at $34.58/oz. Although this type of price action may seem troubling for newcomers, it is becoming routine for seasoned precious metal investors.

The sharp pullback in gold and silver started slightly before Ben Bernanke delivered the Federal Reserve’s semiannual Monetary Policy Report to Congress, and intensified as Bernanke did not offer any new stimulus measures. He even said the inflation outlook remained "subdued." Much of the decline in precious metals were placed on the mouth of the Fed chairman, but if this was the case, other investments would have sold off as well. Instead, the S&P 500, Dow Jones Industrial Average and NASDAQ barely budged. Other investments such as crude oil actually climbed higher.

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The amount of volume during the selloff in both gold and silver was simply staggering. In a matter of minutes, more than 150 million (M) paper ounces of silver were sold into the market. This represents more silver than Mexico, the world’s largest silver producer, mines in an entire year, according to The Silver Institute. The rapid selloff in silver was speculated to have been caused by a large trader, such as a bullion bank, selling gold without any regard to price, in order to produce a panic in precious metals. In a note to clients, CIBC World Markets wrote, "Looks like a large seller of gold in the market. A 10,000 contract traded, down ticked the price by $40/oz. Roughly 200,000 contracts trade per day, but unusual to see such a large single trade, not likely due to contract expiry either. That transaction represents 1M ounces of gold."

Billionaire Hugo Salinas, founder of Mexico’s Elektra retail chain, voiced his reaction to the sharp pullback in a recent interview. He said, "I look at the graph of the gold price and when it collapses down $100 in about an hour, that is not natural market action. I think people are getting used to this. This is standard procedure and it doesn’t worry me at all." According to volume in popular precious metal ETFs, it appears Salinas is not the only investor getting used to volatility. The day after the sharp pullback, the SPDR Gold Trust bounced back with 19.1M shares of volume, compared to a three-month average of only 12.7M shares. Meanwhile, the iShares Silver Trust experienced trading volume of almost 30M shares, compared to a three-month average of 19.5M shares. Furthermore, UBS recently noted that physical gold flows to India were about three times the average volume and the strongest since September. "A cheaper gold price on Thursday elicited a hard-to-miss response from physical players across various regions," Edel Tully, an analyst at UBS, explained. Knowledgeable investors were waiting for any pullback and Leap Day provided them with a red tag sale.

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As the charts above show, on Feb. 29, gold prices dropped from $1,790 to as low as $1,688/oz. Two days before the drop, we warned our premium newsletter subscribers that gold was nearing very challenging resistance at $1,800/oz. However, subscribers were prepared to buy the dip as we explained support will be seen at $1,680-1,705/oz. This is exactly how the scenario is playing out as gold prices held our support range and currently trade around $1,710/oz. The technical picture in silver is very similar. We predicted that silver could make a push to $37/oz very quickly this week, but resistance would be seen near $38. Silver topped out just above $37.40 and declined to our support range of $33-$34/oz, providing another buying opportunity for investors looking to preserve their wealth in hard assets.

Although gold and silver receive more than their fair share of selling pressure, they continue to remain the best option to preserve wealth. Even with the recent decline, silver is still the best performing asset class year-to-date. Meanwhile, gold prices have posted annual gains for the past decade, as central banks around the world continue to print money in hopes of spurring a recovery. Bernanke did not announce any new quantitative easing measures this week, but history shows more money printing will come.

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Eric McWhinnie, Wall St. Cheat Sheet

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To contact the reporter on this story: Eric McWhinnie at staff.writers@wallstcheatsheet.com

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