Bloomberg chart of the day shows the ratio of gold to commodities as measured by the CRB spot index. The argument from Brian Belski of Oppenheimer is that the ratio is too high and that gold is set for a fall.
If you placed this trade when the markets got above its old ratio high, you would have been hit with huge losses. Gold is just a different animal from other commodities especially at this time.
Previously gold has been used as a flight to safety again inflation. Under that environment, other commodity pries also would have been increasing. Inflation would have lifted all prices. But we are currently in a deflationary environment. Inflation is higher in emerging markets, but inflation expectations have been very stable for the G10.
Now gold could be trying to tell us about longer-term inflation, but my guess is that gold is serving as a credit protection against sovereign risk. In this scenario you can have commodity prices decreasing and gold increasing. This would cause the ratio to widen out to level as that we have not seen.
The ratio will start to decrease if global growth increased which will cause commodity prices to rise and there was strengthening of government balance sheets. This would reduce the reason to hold gold as principal protection mechanism. Since we have not sen strong signs that this environment ill change, there is little reason to see this ratio to increase.
The deflation and sovereign risk story seems to make sense if we look at bonds. Bond markets have been rallying at the same time that god has been increasing. The inflation story would give a different answer. In that case, rates would be rising with gold as inflationary expectations rose. We are not seeing this. Gold has taken on a new safety characteristic.
Of course there has been strong buying of gold and at some point there will be increased demand for other metal substitute but this will not come relative to the CRB spot index. The CRB index is very diverse. It is comprised of six categories: metals, textiles and fibers, livestock and products, fats and oils, raw industrials, and food stuffs. This is a business cycle not an inflation index.
Using a ratio to determine relative value is risky especially when there is not inherent arbitrage between these markets.
Previously gold has been used as a flight to safety again inflation. Under that environment, other commodity pries also would have been increasing. Inflation would have lifted all prices. But we are currently in a deflationary environment. Inflation is higher in emerging markets, but inflation expectations have been very stable for the G10.
Now gold could be trying to tell us about longer-term inflation, but my guess is that gold is serving as a credit protection against sovereign risk. In this scenario you can have commodity prices decreasing and gold increasing. This would cause the ratio to widen out to level as that we have not seen.
The ratio will start to decrease if global growth increased which will cause commodity prices to rise and there was strengthening of government balance sheets. This would reduce the reason to hold gold as principal protection mechanism. Since we have not sen strong signs that this environment ill change, there is little reason to see this ratio to increase.
The deflation and sovereign risk story seems to make sense if we look at bonds. Bond markets have been rallying at the same time that god has been increasing. The inflation story would give a different answer. In that case, rates would be rising with gold as inflationary expectations rose. We are not seeing this. Gold has taken on a new safety characteristic.
Of course there has been strong buying of gold and at some point there will be increased demand for other metal substitute but this will not come relative to the CRB spot index. The CRB index is very diverse. It is comprised of six categories: metals, textiles and fibers, livestock and products, fats and oils, raw industrials, and food stuffs. This is a business cycle not an inflation index.
Using a ratio to determine relative value is risky especially when there is not inherent arbitrage between these markets.
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