Uncertainty: A Perfect Storm for Precious Metals

Andy Hecht (July 25, 2011)

The current level of debt in the U.S. is approximately $14.5 trillion. Military action and wars, coupled with the bailout of the U.S. financial system in 2008, has put the U.S. economy in perhaps the most precarious position in history. This level of debt has caused tremendous uncertainty in the financial markets. Democrats and Republicans in Washington D.C. are debating an increase in the debt ceiling. Raising the debt ceiling will allow the U.S. government to continue to borrow at these unprecedented levels. The debt ceiling issue is coming down to the wire – the deadline is August 2. An increase in the debt ceiling will allow the U.S. to continue to borrow money to fund the enormous deficit.

With an election approaching this issue has become a political hot potato. Both political parties are jockeying for position. If they cannot agree on an increase in the debt ceiling then the U.S. government will default on its debt.

While there are many reasons for the current level of the deficit — one thing is for sure. The U.S. dollar and value of U.S. bonds are at terrible risk over the coming weeks. Any default will cause U.S. government bonds to go lower and interest rates to spike higher. This will result in an increase in the deficit as the U.S. government will be forced to pay much higher interest rates to attract buyers of government bonds. These government bonds are the instruments that fund the deficit. The U.S. dollar will go lower in the case of a default as it will be seen as a loss of faith in the greenback and U.S. economy. This is a sticky situation, to say the least.

Precious metals have been going higher for the past 10 years. Commodity prices in general have been in a bull market for this period as well. As the political debate and rhetoric have heated up, we have seen precious metals prices go higher.  Gold has broken above $1,600 per ounce and silver has moved above the $38 resistance and is currently north of $40 per ounce. Gold and silver have both been acting as the only store of value as economic uncertainty is rampant. The debt ceiling issue has been heating up over the past several trading sessions as the August 2 deadline approaches. As this issue heats up so have the prices of these precious metals:

As you can clearly see, both gold and silver prices are reacting to the debt ceiling crisis. The more heated the rhetoric the higher prices go. I believe that there will be a last minute solution to this debt ceiling crisis. I cannot believe that self-interested politicians in Washington will allow the U.S. economy to fail. Default equals failure.

So, when the compromise is reached and the debt ceiling is raised, gold and silver prices are likely to pull back. The uncertainty will disappear. Everyone will breathe easier and economic “disaster” will be avoided.  When all the smoke clears one thing will become apparent — the U.S. will continue on its current path as the biggest debtor nation in history. Interest rates will have to go up in the long term and the value of the U.S. dollar will fall as faith in the U.S. economic system will crumble.

The response of gold and silver to a resolution of the debt ceiling “crisis” may be severe. Prices may fall sharply. This will only serve as another opportunity to buy these metals. Gold is the only solid and stable reserve asset at this point. Silver, by virtue of its dual role as an industrial commodity and investment asset, will recover after the knee-jerk selling caused by the euphoria of a resolution of the current crisis. The Chinese currency is not convertible, therefore, it is not available as an investment or reserve asset. Other currencies such as the Euro and Yen have their own problems.

Gold and silver both will continue to go higher over the coming months and years. Therefore, don’t buy these precious metals into the current rally. Keep your powder dry. The opportunity to load up is coming soon. An increase in the U.S. debt ceiling will only serve to allow undisciplined politicians to continue to spend spend spend.  Buy the next dip — buy these metals when everyone else is selling… you will be glad that you did!

Happy trade hunting…

Other Posts from the Author

• How to Profit from the Changing Chinese Diet - May 15th, 2012
• Emerging Market Demands Mean Volatile Food Prices Are Here to Stay - May 10th, 2012
• Who’s an Uncivilized Jerk? - May 7th, 2012

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