Is it time to take profits on gold?

The gold price is off nearly $200 since it hit its peak of $1,917 earlier in the week. I suspect that most Moneyweek readers won’t be much bothered by this – they’ll have bought gold somewhere between $300 and $1,500 and will note that even at current levels it is only where it was a couple of weeks ago.

That said, it is still a reasonable sized fall so you might be wondering if it is time to take some profits of your own.

Gold is risky and gold is volatile. It is also – mostly – held in a very concentrated form (ETFs and the gold mining sector, which as a whole is smaller by market cap than Apple) and very open to speculative moves.

Take this week’s falls. You could lay them almost entirely at the door of speculative sentiment.

Here’s how the Daily Reckoning explains it: “Speculators don’t buy physical bullion. They buy paper gold. To do so they are only required to put down a small percentage of cash to gain a very large exposure to moves in the gold price. It’s all about leverage to price moves. It’s not about owning physical gold as a wealth protector”, (which is what we are trying to do when we buy gold).

The CME Group, who owns and runs the COMEX gold futures market, just announced a margin increase of 27%, effective from close of business on 25 August.

So if you’re a gold futures speculator and want to buy 100 contracts of COMEX gold futures (one contract = 100 ounces), yesterday it cost US$742,500 to establish the position. On Friday, the same position will soak up US$945,000 of your cash. Importantly, the CME also hiked the maintenance margin by 27%. Therefore, to maintain current positions going into Friday’s trade, speculators will have to stump up more cash… or sell.

The requirement for more cash was the starting point. And “then selling begat selling”. It may yet beget more – bull markets never move in a straight line and bull markets such as this are prone to violent moves.

So if you are of a nervous disposition, you are a short-term investor and you can’t cope with the twists and turns of this kind of thing (I sympathise – it keeps me up at night too) you might want to trim your holdings too.

Otherwise you might want to remember why you bought gold in the first place (because you don’t trust central bankers to protect your money) and ask yourself if anything has changed.