Summary: The continuing sales of Gold by the IMF and the emerging bubble in the US Government set the stage for the next move higher in late 2010/early 2011. Until then investors should pay close attention to the charts and wait for opportunities to add to gold positions while these stories play out in the market.

Historically, Gold is known as a store of value. During this uncertain year as volatility and uncertainty rule over the equity markets Gold has been a safe haven outperforming the broader market averages.

As Gold appears poised to make new highs some analysts are questioning if the long bull run is finally over as all of the obvious stories have been told. Banking crises, sovereign debt woes, and fiscal imbalances have played out over the past few years. However, there are a number of catalysts ready to push the price higher over the next few years. They include the removal of the IMF Gold overhang and the bubble forming in the US Government.

On September 18th, 2009 the IMF’s executive board gave approval to sell the remaining 403.3 tonnes of Gold currently being held in order to fund future operations.

In the following two months the IMF concluded gold sales amounting to 212 tonnes to Central Banks in India, Sri Lanka, and Mauritius with the remaining gold to be sold over time on the open market beginning in February of 2010.

In the past two months, the IMF has sold 15.2 tonnes of gold in May and 17.7 tonnes in June bringing total sales so far to 71.4 tonnes. If sales continue at the current pace, the target date for completion appears to be in January or February of 2011.

Even if Gold sales by major Central Banks as permitted under the Central Bank Gold Agreement resume the removal of the IMF Gold overhang will provide comfort to investors.

In the US, a weak housing market with significant excess capacity will constrain a new real estate bubble from forming but the new bubble which people are missing is the expansion of the US government through regulation and an explosion of spending.

Out of control spending at the federal, state, and local levels is creating negative circle drawing taxpayer ire and hampering economic growth. Budget deficits and pension shortfalls are drawing the country closer to a day of reckoning where difficult choices will be forced upon the population.

US and European governments appear unable to begin removing quantitative easing and excess stimulus as they grapple with sovereign debt problems, high unemployment, and slow economic growth.

US budget deficits will remain obscenely high for the foreseeable future with no sign of interest rate normalization coming.

President Obama will be facing a difficult reelection campaign with the economy still weak and unemployment high. Any attempt to normalize interest rates will be frowned upon.

If the Republicans were to win in 2012 they would most certainly pressure the Federal Reserve to keep rates low while they attempt to stimulate economic growth. If the Federal Reserve attempted to push rates higher in 2013 it is likely that we would see another recession, although this one will be rather shallow compared to the 2008-09 recession. This would mean immediate interest rate cuts and additional stimulus packages with calls that they would be mismanaging the economy.

This leaves Bernanke stuck in a no win situation. While he may claim independence, he will bow to pressure from Congress and having an extremely dovish group of Federal Reserve Presidents makes it unlikely he will raise rates anytime soon.

I will remain bullish on Gold until the US Government bubble is popped and spending is significantly curtailed.

Gold stocks, on the other hand, are less attractive to me. They should be trading higher based on a higher gold price but there are some factors restraining stock prices.

First, you have rising costs at mines partly related to the depreciation of the dollar. While we point to the USD Index, the truth is over 50% of the Index is made up of the Euro and approximately 90% is European currencies with little or no exposure to Asia and South America.

With most new mines opening in Mexico, Canada, South America, and Africa the USD Index provides weak guidance for mining industry costs. Investors concerned about costs would be better served to track individual currencies.

Second, gold stocks are aggressively acquiring the remaining low hanging fruit in the exploration and early stage production area, in many cases with stock. The problem with these transactions is the effect of dilution.

In the short-term, stock prices will suffer but eventually the stock prices of major producers will move higher as efficiencies are realized from the acquisition of neighboring properties and properties purchased are finally put into production.

The most value appears to be outside of the major producer area down all the way the curve into the exploration and junior area where contingent properties and the remaining large scale deposits are taken out by the majors.

Seasonality is turning bullish for the juniors with the summer season a more active time in the merger and acquisition area as low stock prices pique the interest of major and mid-tier producers.

Gold bullion should move to new highs later this year but will likely see some sideways to lower trading action in the near term as we move through the historically weak summer period but investors should keep their eyes and ears on the price and moving averages waiting for buying opportunities to emerge.

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