What January's Drop Says About Gold

Falling Gold Prices can't hide the deep trouble facing stocks, bonds and the Dollar...

The WASHINGTON-BEIJING AXIS again hammered New York and London stocks on Thursday, says Dan Denning in Melbourne, Australia for the Daily Reckoning Down Under.

Wall Street fell 2% after suffering a surprise attack on its regulatory flank by President Obama. The Obama proposals are designed to prevent any one bank from becoming "too big to fail." They aim to achieve this – in ways not pleasing to the investment banking industry – by cracking down on proprietary trading and bank sponsorship of hedge funds.

We're not going to defend the investment banks. But Washington should make up its mind.

Back under Bill Clinton, the Rubin Treasury had a clear economic philosophy. It thought – in the academic jargon of the day – that it should "privilege" Wall Street over Main Street and Detroit (manufacturing). Thus the US came to run a capital account surplus and a massive current account deficit. Wall Street thrived and booked record profits (as a percentage of S&P 500 earnings) and stocks soared. The wealth effect even trickled down into 401(k)s during the dot com boom. And it was all good.

But now, and since 2000 in fact, it's not all good for anyone. Banks are bad. And fresh from a third-straight trip to the electoral woodshed, the American president is prepared to go populist. We don't know if the President's proposals will pass, or if they will fix a banking sector that's still saddled with debt. But we doubt it.

Regulatory reforms deal with the future. In the "now", banks still have massive exposure to falls in residential and commercial real estate. Accounting tricks have forestalled the realization of losses. But not even Moses could hold back the tide forever, we reckon.

Another rising tide shows another 482,000 Americans filing for unemployment benefits for the first time last month. That was a 36,000 increase over the previous month. Economists expected a decline. Stock prices, under siege as Washington attacks the only profit engine in America's economy still firing away, are also being hammered by growing concern over tighter Chinese bank lending. That concern, ironically, is even stronger now that China has reported fourth quarter GDP coming in way above expectations at 10.7%. If inflation gets loose in China, the central bank will have to be even tighter.

Thus the Gold Price fall and the zombie-like rally of the US Dollar. We've seen this before in the last two years. When bad news gains momentum in the investment press, the Dollar rallies and gold and stocks fall. The Dollar gets a strange "flight to familiarity" bid.

What does this say about gold?

It says that US Dollar rallies are a great chance to enter or add to your positions in precious metals and/or precious metals stocks, we believe. Even base metals like copper might be worth a look on the dips, says Diggers and Drillers editor Alex Cowie. Alex sent us the first draft of his January letter late last night. Commodities will retrench on Dollar strength, he writes, but these Dollar rallies on uncertainty and gloom shouldn't be confused with any kind of real Dollar strength.

On an interest-rate basis, the Dollar is still getting clobbered by the Aussie and other commodity currencies. Or, if you prefer to view your currencies as proxies for an entire economy and its growth prospects, you could do worse than look at Brazil.

Granted, there aren't a lot of highly liquid options to the US Dollar – not outside Gold Bullion – that don't also suck, as do the Yen and the Euro. But we read in the wee hours of the morning that the Russians are loading up on some of Canada's money and lightening their load of US Dollar.

The main point? The United States is a worsening fiscal trap. Washington confusing the markets about policy and being alternatively negligent and belligerent won't help anything. But then, this is government we're talking about.

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