China increased buying of gold and this trend is expected to continue as the historically high buying season approaches in China. Not only has gold buying increased in China, but India as well and huge gold buying usually leads to higher gold prices.
Chinese imports from Hong Kong were a huge 56.9 metric tons in September. This was a nearly six-fold increase from September of 2010 (about 10 mt). In the July-Sept. 2011 period, China imported more gold (140mt) than in all of 2010 (120mt). This increased buying is only likely to continue as we approach the historically high buying season for gold in China -- the few months prior to the Chinese New Year. Cameron Alexander, a senior analyst at GFMS, forecasts China’s total gold imports at 350mt this year. That’s 230mt more than in 2010.
Buying has been up in India too. Last year India imported 958 tons. During the first six months of 2011 India imported 553 tonnes. Projected this translates into 1106 tonnes of gold for FY2011. That would be about 150mt more than in FY2010. In the April - June period, Indian buying was 267 tons, which was a 60% increase over the 167 tons during the same period in 2010. That’s 100mt more than last year for that quarter alone. Don’t forget that India is currently celebrating the festival of Diwali -- the festival of lights. This always seems to encourage gold buying. Part of the celebration is the worship of the wealth goddess, Lakshmi, after all.
Central Banks are buying gold. During the first 5 months of 2011 they added 155 tons. This, too, is bullish for gold. In fact, Prithviraj Kothari, president of the Bombay Bullion Association, has suggested that gold may top $2000/oz. by the end of 2011. If it does, this should pay investors handsomely, especially if they invest in options or futures. Still, the ETF’s GLD and IAU are a lot safer. The ProShares Ultra Gold ETF (UGL), for double the movement of gold, is also safer, although more risky than the latter two.
Looking at the two year chart of the GLD (below), you can see that gold has been in a strong uptrend for multiple years. This trend has shown no real signs of reversing itself. The easy money policy of central banks around the world, especially in the U.S. and the EU -- the world’s two biggest economies, seems more likely to fuel gold accumulation than to discourage it. The lack of faith of the Chinese and the Indians in either the USD or the Euro is even more likely to mean these big buyers will buy gold. I note that the ECB recently lowered its interest rate to 1.25% from 1.5% -- inflationary.
The slow stochastic sub chart of GLD shows that it is overbought in the near term. However, the strong uptrend encourages one to believe that an overbought state may be more the norm for the GLD ETF than otherwise. This means you can buy GLD even if it is overbought. Of course, legging in is a wise strategy. You don’t want to get fully in at a near term top. You’ll just kick yourself. The statistical play is to average in, in most cases. Alternatively, if you think the overall market is in for a pullback, there is an excellent chance that gold will pull back with it. You could wait for a near term market bottom, then you could buy.
The following charts from the World Gold Council show the relative importance of China and India buying to the overall gold supply and demand picture.
As you can see from these charts, the U.S. gold demand is much smaller than that of China, India, and the EU. If people tell you not to buy gold because inflation in the U.S. is not that bad, they are just misguided egotists, who think the world revolves around the U.S. only. The charts clearly show that gold demand it does not. In India, the biggest gold importer, inflation from Sept. 2010 through Sept. 2011 was 10.06%. It seems reasonable that Indians might be worried enough about inflation to buy gold.
If you are buying options, you can buy options on GLD with reasonable safety. The trust holds physical gold not futures (Yahoo Finance). Therefore you wouldn’t pay a double option premium for options on futures for example. However, the Gold VIX is still very high at about 30 (the norm is 15-20). This means that options will be very expensive. The best way to eliminate some of the volatility premium of the options is to buy a spread (perhaps more than one). You can buy a low price GLD call option for Jan. 2012 at the $175 price, and you can sell a Jan 2012 call option at the $176 price. If you do this as a spread trade, you may be able to get this option spread for about $0.35 ($35). If you bought 10 of these, they would yield you $650 if both were in the money at options expiration in Jan. 2012.
If you bought the single $175 Jan 2012 call option, it would cost you about $7.70 ($715 for 10 options). Then GLD would have to rise above $182.15 for you to even break even. Of course, such a call option has unlimited upside. However, if you are looking for more risk, you can more safely buy more of the $175/$176 spread , which is fully in the money at a GLD price of $176. FYI, GLD closed at $172.07 on Wednesday Nov. 9, 2011.
Be aware that the UGL invests in swaps and futures contracts, so you would pay a double premium if you tried to buy options on UGL.
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