Saturday , 19 August 2017


Puplava: The Theoretical Price for Gold is $1,905/ozt.! Here's Why

 Given the extremely high correlation between central bank balance sheets and the price of gold, it is possible to determine the implied price relative to current debt levels. In doing so, we calculate gold’s “central bank balance sheet value” at around $1900 an ounce. [Let us explain further.] Words: 705

So says Chris Puplava (www.financialsense.com) in edited excerpts from his original article* (Lorimer Wilson, editor of www.munKNEE.com has further edited the article below for length and clarity – see Editor’s Note at the bottom of the page. This paragraph must be included in any article re-posting to avoid copyright infringement.)

Puplava goes on to say, in part:

Gold has had quite the wild ride over the last nine months in which we’ve seen several triple-digit swings in price and,…right now, we have the second most oversold reading since 2008…As of yesterday’s low, gold appears to be selling at a discount of $255/oz to its average price. Thus, as I show below, gold investors are currently presented with yet another oversold and undervalued buying opportunity.

Second Most Oversold Reading In Four Years

Our firm has developed a technical indicator for gold based on several variables which we aggregate and then convert to corresponding z-scores (or standard deviations) to get a statistical reading of how overbought or oversold gold is relative to its historical performance. As shown in the figure below, gold is one standard deviation below its 12-year average (average taken over gold’s secular bull market) which is the second most oversold reading since 2008. Readings below -1.0 have often marked significant bottoms and the current reading should be seen only 15.9% of the time or, conversely, readings above -1.0 should occur 84.1% of the time.

 

gold and pfs group intermediate term gold indicator
Source: PFS Group

Gold Selling for a $255/oz Discount to Theoretical Price

Because gold is no one’s liability and can’t be created out of thin air like fiat currency, it is seen as a store of value and a hedge against global currency debasement. Gold has served this role exceptionally well over the last several years which has seen trillions upon trillions of dollars dumped into the global financial currency pool.

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Proof of gold serving as a hedge against currency debasement is well illustrated in the graph I present below, which plots reserves for the five biggest global central banks (in dollars) alongside the price of gold. As you can see, the correlation between the two is unmistakable.

 

u.s. ecb. boj. boe. pboc reserve
Source: Bloomberg

Running a regression analysis shows a 91% correlation between April 2009 to the present and the linear equation for the regression can be used to derive what the theoretical price (TP) for gold should be. Using the regression equation and the current value of the combined big 5 central bank reserves gives a current TP for gold of $1905/oz.

Any time gold is above the regression line it can be seen as overvalued relative to its TP while values below the regression line indicate gold is undervalued. Gold’s price as of this morning is shown by the red box, which is clearly well below the linear regression line.

 

gold vs the big 5 central banks
Source: PFS Group

Since 2009 gold has roughly maintained a steady $100/oz trading range to its TP until recently exhibiting massive volatility, both to the upside as well as to the down. Shown below is a multi-panel chart which plots gold and its TP in the top panel while the deviation of the spot price to its TP is shown at bottom.

  • Last summer it appears gold was discounting a rapid increase in central bank reserves to combat the European crisis and got way ahead of itself by trading nearly $300/oz above its TP.
  • Gold sold off sharply in September 2011 and had a bear market in a single month alone before rallying into November.
  • The decline in December 2011 pushed gold well below the $100/oz deviation from its TP in which gold did a 180 degree turn by selling off from nearly $300/oz above its TP in August 2011 to nearly $300/oz below its TP by the end of the year.

 

gold reversal
Source: Bloomberg

Summary

When reviewing our gold technical indicator and the “central bank balance sheet value” for gold, we see that it is both strongly oversold on a four-year basis and has an implied price of $1900 per ounce, around $250 above its current reading.

*http://www.financialsense.com/contributors/chris-puplava/analysis-gold-oversold-and-undervalued-255-per-ounce  (To access the article please copy the URL and paste it into your browser.)

Editor’s Note: The above article has been has edited ([ ]), abridged (…), and reformatted (including the title, some sub-titles and bold/italics emphases) for the sake of clarity and brevity to ensure a fast and easy read. The article’s views and conclusions are unaltered and no personal comments have been included to maintain the integrity of the original article.

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One comment

  1. This was really interesting, you are essentially identifying buy/sell opportunities by identifying whether people hold more or less gold than they normally would, indicating a likelihood that this will correct itself in time as the status quo is once again established.