GOLD

[Aussie]

Gold This Week.
December 12th, 2008
The Privateer

For no discernible (or announced) reason, the US Federal Reserve recently announced that the last meeting of their Federal Open Market Committee (FOMC) would be streched from a scheduled one-day to a two-day meeting. Originally scheduled for December 16, the meeting is now to take place over December 15-16 with the decision on interest rates to be given on December 16.

Of course, this is the FOMC meeting at which the Fed is universally expected to announce the lowest target Federal Funds Rate in their 95-year history. The current rate is 1.00 percent. For over a month, the Fed has been expected to cut that rate in half to 0.50 percent on December 16. More recently, as the data on the real US economy has steadily worsened, a slowly growing chorus has begun for an even bigger cut. On December 11, futures contracts on the Chicago Board of Trade showed an 84 percent chance that the Fed will actually lower by 0.75 percent to a target Fed Funds Rate of 0.25 percent at the December 15-16 meeting.

Whatever the rate cut, be it 0.50 percent or 0.75 percent, it is clear that the last FOMC meeting of 2008 will also be the Fed's last chance to produce a "headline" rate cut. In 2009, there will no longer be any room for any more big Fed cuts. There is certainly no room for interest rates to fall at the shorter end of the US Treasury's yield curve. This week, rates on three-month Treasury paper actually dipped into NEGATIVE territory. On top of that, the Treasury sold $US 27 Billion in three-month bills this week at a discount rate of 0.005 percent. That is the lowest rate since the US Treasury began debt auctions in 1929. "Investors" are, in effect, paying the US Treasury to retreat into the "safety" of its debt paper.

This situation cannot last for long, and the grotesqueness of it is starting to have effects. The US Dollar dived this week as the trade weighted USDX index fell sharply. As recently as November 21, the USDX closed on a spot future basis at 88.41. This was the highest such close on the index since mid April 2006. Two trading days later, the USDX had slumped to 85.06. Then came the recovery, with the USDX spot future close climbing back to 87.16 by December 3. But this week, the USDX has tumbled again. The major damage was done on December 11 when the yield on three-month Treasury paper went "negative" for the first time ever. By December 12, the USDX had fallen to 83.63, its lowest level since October 20.

Attachment 1095

Much more important, the USDX has now traced out a series of lower highs and lower lows since its 88.41 peak three weeks ago. This is a STRONG indication that the huge US Dollar rally which began back in July, fuelled by US capital repatriation and even more by global debt deleveraging, is over.

The current issue of The Privateer (Number 618 - Published on December 7) includes in the "chart files" a point and figure chart of the USDX up to the close of trading on Friday, December 5. Here is that chart.

Here is the same chart a week later to the close of trading on December 12. Please note that the trading range we laid out on the December 5 chart has now been decisively penetrated - to the DOWNSIDE!

Combine record lows on Treasury debt yields across the curve - the short end now actually having dipped into NEGATIVE territory - with a SERIOUS fall on the US Dollar trade-weighted index. What you have is an exceedingly dangerous situation which could collapse very quickly. In this context, a "collapse" would mean a rapidly falling US Dollar and rapidly RISING US Treasury debt yields. In the current financial and monetary situation, no more potentially "toxic" mixture exists.

Gold has reflected this situation. Last week (December 1 - 5), the $US Gold price fell $US 64.00. This week, (December 8-12), Gold has risen $US 68.30 - and that is after a fall of $US 6.10 on the spot futures market on December 12. More on this in the commentary accompanying the $US 5 x 5 Gold chart below.

Consider the fact that the only thing which "saved" US (and world) stock markets this week was the US Treasury stepping into the breach to temporarily fund the "big three" US auto makers after the Senate baulked at the $US 34 Billion bailout package they were expected to grant. Consider further that despite the crash dive in US consumer spending, the November US trade deficit actually ROSE month on month. Consider in particular the third quarter 2008 borrowing figures for the various sectors in the US economy released on December 11. US mortgage borrowing fell at a 2.4 percent pace after having fallen by 0.1 percent rate in the previous quarter. Total US household borrowing fell by 0.8 percent after having risen by 0.6 percent in the second quarter. State and local government borrowing rose by 2.9 percent.

But US FEDERAL government borrowing surged at a 39 percent pace in the third quarter of 2008 - SIX times its rate for the previous three months! That is totally unsustainable. Even to maintain that level of borrowing in coming "quarters" is all but impossible. To increase it at the pace at which federal government borrowing rose in the third quarter would quickly lead to a "Weimar" or "Zimbabwe" episode of hyperinflation with certain currency distruction at the end of it.

Next week, the Fed will make the last of their significant rate cuts, leaving no more room below. US Treasury yields are at the lowest point in their history while at the same time US federal government borrowing is accelerating at a pace never before approached. The US Dollar has fallen below the bottom of its recent trading range. In US Dollar terms, Gold has risen by 9.1 percent this week.

What happens after December 16? The monetary "authorities" at the US Fed and the Treasury will have to resort to "alternative measures", not only to continue their attempt to "unfreeze" the credit markets, but to merely continue to fund the US government itself. Any move in this direction will put added pressure on the US Dollar. It will also make the present non-existent US Treasury yield curve look transparently absurd and almost guarantee a HUGE jump in yields. The only question is when.

The potential for a HUGE jump in Gold given this situation is obvious. Does "safety" reside in the world's reserve currency (the US Dollar) or in the debt paper of the government which issues that reserve currency? Clearly not. That being the case, it must reside in the alternative to ALL paper moneys based upon debt. And that's Gold. Always has been, probably always will be.

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© 2008 - The Privateer
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