SmallCapMedia.com - Gold - Oil - Diamond

Well, Greenspan did his part in talking up the economy and the market did its part bidding up the dollar. The dollar gained and the gold price lost. But this is not altogether a bad thing, because the gold price had gotten ahead of itself earlier this year and now it’s starting to get back into attractive territory.

Last year I wrote an article illustrating how to calculate gold’s theoretical value (you can find it on my website at http://www.paulvaneeden.com/ in the Library Section, titled: The Gold Price [April 2003]). By updating the data I used then, and making a few assumptions, it’s possible to get a rough estimate for whether gold is undervalued or overvalued.

During March this year the gold price became quite overvalued, which is why, on March 26, my column here on Kitco was titled: Is the current rise in the gold price sustainable? As you know, the gold price has been falling since then. The good news is that the price of gold is now much more in line with its theoretical value although that does not mean it cannot, or will not, go any lower. But it does mean that there is substantially less risk in the gold price now than four months ago.

In contrast to the upbeat news about the economy we have been receiving lately, today’s Wall Street Journal reports that US economic growth decelerated to a slower-than-expected pace in the second quarter as consumer spending fell to its weakest rate in three years.

It may have been slower than what the average mainstream economist expected, but we have been expecting the economy to slow down as interest rates rise, equities languish and bond prices fall.

In response to today’s economic report the dollar fell and the gold price jumped to life. But just like the decline in the past two weeks should not be disconcerting to gold investors, today’s jump is not yet time for celebration.

As I’ve said before, the price of gold is unlikely to sustain a meaningful rally until the US dollar falls in the face of higher interest rates. Yes, I know it’s counter-intuitive; and I know that currencies strengthen when interest rates rise -- it's what’s been keeping the dollar from plummeting this year -- but, at some point, the increase in interest rates is going to strangle the US economy because of all the debt, and the poor quality of the debt. When that happens I doubt that foreign investors are going to continue to send five hundred billions dollars of their savings to be invested in declining stocks and bonds.

For us it means… patience.