LP L FINANCIAL R E S E AR C H

Weekly Market Commentary

June 4, 2012

Gold: Its Back

Jeffrey Kleintop, CFA
Chief Market Strategist LPL Financial

Highlights
Fortunately for investors, as Treasuries became the most expensive they have ever been, another safe haven emerged last week that had been lost to investors seeking safety in recent years: precious metals. While stocks may be nearing an attractive entry point, precious metals after suffering bigger losses and beginning to exhibit a return to a traditional safe-haven behavior may be rising on investors shopping lists as they start to look at deploying cash positions.

As investors sought a safe haven from falling markets last week, the yield on the 10-year Treasury note (which moves in the opposite direction of the price) hit a record low going back to the 1950s, as it fell to 1.45% [Figure 1]. Fortunately for investors, as Treasuries became the most expensive they have ever been, another safe haven emerged last week that had been lost to investors seeking safety in recent years: precious metals. While historically acting as a refuge for investors during stormy markets, gold prices have been driven by multiple factors including the demand from China and India in recent years. This has resulted in a departure from golds former role as a defensive investment. Gold has tracked the ebb and flow of global growth, especially growth in Asia, in recent years. For example, gold plunged 30% from mid-March to mid-November of 2008 (according to Bloomberg data), as the global financial crisis emerged, offering investors little safety from the similar decline in the stock market. Furthermore, this year, gold prices tracked the slowdown in Chinas economic growth, moving down in lockstep with Chinas Leading Economic Index as key data releases reflected slowing growth and missed economists estimates. But that behavior changed last week as gold prices rose despite weak global economic data, including data from China that pushed bond yields lower (and prices higher), as you can see in Figure 2. The release on Friday, June 1 of Chinas PMI, a widely-watched manufacturing gauge for China, was surprisingly weak and registered a sharp pullback to 50, the threshold between a growing and shrinking manufacturing economy in China. Investors began to look at gold as a safe haven again rather than a barometer of global or Asian economic growth. Gold had fallen 19% from early September of last year until mid-May 2012, as the price in dollars per troy ounce fell from 1900 to 1540, nearly making it a bear market for the precious metal. Since May 16, 2012 gold is up 5.5% with most of that gain, 4 percentage points, coming on Friday, June 1 as stocks, as measured by the S&P 500, fell 2.5%. This change in golds behavior may be lasting. Currency is a major driver of gold price movements. For example, the rise in the value of the dollar accounted for about half of the 19% decline in gold prices prior to this week. The strong dollar, driven by money flowing into the U.S. from Europe and elsewhere, has weighed on the price of gold measured in dollars. A turnaround in the direction of the dollar would be a plus for gold prices.

History of 10-Year Treasury Yield

10-Year Treasury Yield 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% 1954 1960 1966 1973 1979 1985 1992 1998 2004 2011

Source: LPL Financial, Bloomberg Data 06/04/12

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Golds Sudden Change in Behavior

Gold in $ Per Troy Ounce and Yield on 10-Year Treasury Note 10-Year Treasury Note Yield (Left Scale) Gold (Right Scale)

2.1% 2.0% 1.9% 1.8% 1.7% 1.6% 1.5%

1700 1650 1600 1550 1500 1450

Last weeks softer U.S. economic readings for key data like the Institute for Supply Management (ISM) and employment make it more likely we will see a new program of stimulus from the Federal Reserve (Fed) as the current Operation Twist draws to a close this month. That action by the Fed may weaken the dollar and add further fuel to gold prices, sustaining golds new behavior as a safe haven. A safe haven may be valuable given the volatility that may result from upcoming events: June 6: European Central Bank meeting June 10 & 17: French parliamentary elections June 17: Greek elections June 19 20: Federal Reserve meeting June 28 29: European Union summit And as of mid-July 2012, Greece will run out of money if the second round of bailout funds are not dispersed due to Greece failing to live up to the agreement that was crafted late last year. While stocks may be nearing an attractive entry point, precious metals after suffering bigger losses and beginning to exhibit a return to a traditional safe-haven behavior may be rising on investors shopping lists as they start to look at deploying cash positions. n

1.4% Apr 12

Apr 22

May 02 May 12 May 22 Jun 01

Source: LPL Financial, Bloomberg Data 06/04/12

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IMPORTANT DISCLOSURES The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance reference is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly. The economic forecasts set forth in the presentation may not develop as predicted and there can be no guarantee that strategies promoted will be successful. Precious metal investing is subject to substantial fluctuation and potential for loss. Government bonds and Treasury Bills are guaranteed by the U.S. government as to the timely payment of principal and interest and, if held to maturity, offer a fixed rate of return and fixed principal value. However, the value of fund shares is not guaranteed and will fluctuate. Investing in specialty market and sectors carry additional risks such as economic, political or regulatory developments that may affect many or all issuers in that sector. The fast price swings in commodities and currencies will result in significant volatility in an investors holdings. Chinese Purchasing Managers Index: The PMI includes a package of indices to measure manufacturing sector performance. A reading above 50 percent indicates economic expansion, while that below 50 percent indicates contraction. The Federal Open Market Committee action known as Operation Twist began in 1961. The intent was to flatten the yield curve in order to promote capital inflows and strengthen the dollar. The Fed utilized open market operations to shorten the maturity of public debt in the open market. The action has subsequently been reexamined in isolation and found to have been more effective than originally thought. As a result of this reappraisal, similar action has been suggested as an alternative to quantitative easing by central banks. The ISM index is based on surveys of more than 300 manufacturing firms by the Institute of Supply Management. The ISM Manufacturing Index monitors employment, production inventories, new orders, and supplier deliveries. A composite diffusion index is created that monitors conditions in national manufacturing based on the data from these surveys. Treasuries: A marketable, fixed-interest U.S. government debt security. Treasury bonds make interest payments semi-annually and the income that holders receive is only taxed at the federal level.

This research material has been prepared by LPL Financial. To the extent you are receiving investment advice from a separately registered independent investment advisor, please note that LPL Financial is not an affiliate of and makes no representation with respect to such entity.
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