Is A Bear Raid Coming Next Week In Gold?

Summary

• The net speculative long position in gold increased for the sixth straight week.
• The percentage of speculative gold shorts is now at the lowest since 2012 and that is a big contrarian red flag.
• The Fed looks to be serious about its balance sheet reduction and it looks more likely the US debt ceiling will be extended.
• Physical gold demand in Asia is weak as buyers wait for lower gold prices.
• These are the conditions that facilitate a potential "Bear Raid" as opportunists test the strength of speculative gold longs.

The latest Commitment of Traders (COT) report showed another rise in speculative longs for the sixth straight week and a decline in speculative shorts for the fifth straight week. Gold has been continuing a streak where it has been drawing the speculative bulls in and shedding shorts over the past six weeks. The current speculative short percentage is the lowest since 2012 and being long gold is clearly in fashion now amongst speculators – which worries us.

This week investors got to follow Jackson Hole speeches from different Fed speakers, including Janet Yellen. Not surprisingly, Yellen’s speech did not deal with policy and was more of a “Swan Song” then anything else.

What interests us though is that the Fed seems to be preparing the markets for a “healthy” decline as two Fed presidents (Esther George and Rob Kaplan) both discussed healthy market corrections in their speeches. Kansas City Fed President Esther George said asset prices may decline once the Fed starts to taper its balance sheet and that the U.S. central bank would have to “wait and see.”

This should be concerning to any investor who has invested in assets that have benefited from Fed balance sheet expansion (pretty much anything), and we think that outside of a massive collapse in markets, the Fed will be reducing its balance sheet this fall. While gold would offer a risk-hedge far better than stocks in case the Fed causes a crisis via its balance sheet reduction, it could also drop significantly as much of its recent support has been speculators that overwhelmingly use leverage in their commodity investments. Any monetary tightening would cause them to close out positions and that would include gold.

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