Note From the Editor: In the interest of keeping a balanced and open mind, a reader offered to anonymously submit the following guest post. While I don’t necessarily agree with the contents, I’ve decided to publish it for the sake of making sure you hear both sides of the story.
There has been a successive series of bubbles over the last twenty years. The first was in stocks, which collapsed during 2001-2002. The second was in housing, which has yet to finish collapsing. The third bubble, which is still ongoing, is in gold. The slang term “gold bug” has been resurrected to describe investors who are confident that the price of gold will continue to rise.
Unfortunately, the gold bubble seems to be the worst one of all, as investors burned by the two previous bubbles flee to what looks like the last store of value. When the bubble bursts, as it certainly will, gold investors will suddenly find themselves holding worthless metal. The best way to tell that a particular commodity is in a bubble is to look at the normal usage for that commodity and compare it with the current speculation:
In the case of gold, India has historically been the world’s largest consumer of gold. What is most telling about this particular bubble is that the consumption rate for gold in India has been decreasing since 2005! If the world’s largest consumer of gold is starting to slow down in usage, why is the price of gold so high? The answer is that gold is in a speculative bubble of it’s own and it has to crash in order to restore price sanity to the commodity market.
For the trader who is involved in futures, the question of whether to go short on futures has been answered in the definite affirmative. To sell gold futures short means to essentially borrow futures contracts on margin and sell them. The key thing to remember is that the short seller expects the price of a stock, commodity or bond to fall. Since the contracts were borrowed on margin, the trader will have to buy them back eventually. If the price of gold falls, those contracts will go down in value. When the trader buys them back, he can pocket the difference and thus make a tidy profit from his speculation.
Thus, shorting gold futures would appear to be a very smart move, but traders still need to be careful. The risk of a short position is that, while the amount of profit the trader can make is finite, the amount of losses that can be sustained is theoretically infinite. This is because a falling price can only go so far as zero. However, a rising price can go up as much as it wants, which makes the loss to the futures trader that much greater.
Tags: gold futures contracts, short gold futures, trade gold futures