Brexit: An Opportunity to Sell the Gold Rally?

Is Brexit a trap for gold bulls? The uncertainty over the Brexit referendum vote next Thursday has caused a flight to safety in Treasuries, the yen and gold since the first of the month. You can see this move in the latest gold COT data (through June 14, 2016) which shows a huge spike in the speculative long position to a new high at 347,000 contracts. The open interest since then has soared on massive volume, so the speculative long position has surely set new records over the past three trading days. This long position is a threat to the market because it is certain to be on a hair-trigger.

A vote to stay would likely bring the gold price back to the May lows around $1212 which is where the buying frenzy began, or even lower. It likely won’t matter in the short term that there are other better reasons to own gold such as last week’s shift in Fed rate hike expectations or the potential collapse of some large European banks. The Brexit buyers will liquidate.

If the vote is heavily in favor of leaving the EU, we could see one further move up in gold which could take days not weeks to complete. A reasonable target for gold would be $1430. But have we already seen this bump? If this is like other event-driven gold rallies, the buyers are already in and the metal could be hit by a ‘sell the news’ correction even if the news is ‘good’.

As first-rate economic historian Bob Hoye points out, when gunfire is imminent or a geopolitical/financial event grabs the headlines, the gold market typically generates a quick 10% move and an interim high as previously indecisive traders who were sitting on the sidelines impulsively jump into the market. (invasion of Kuwait, 911, Falkland Islands, Ukraine/Crimea, Greece debt crisis, Chinese currency devaluation). Gold has already had a $100 pop since the first of the month, enough to make it vulnerable.

Let’s suppose there is another 10% move from here ‘on news’ which would take gold to $1430. With the buying power spent and the panic over, the price historically falls as a resolution to the conflict becomes apparent. The market typically becomes oversold, generating an important low and a great buying opportunity. In most cases, you could see an RSI reading below 32.

Now, here is the surprise, courtesy of Bob Hoye. A marginal win by the Leavers really leaves the door open for Britain to remain in the EU. Why? Because this is a non-binding referendum and in theory could be totally ignored by the UK government. This amazing information is explained in a blog post by Financial Times columnist and legal expert David Allen Green.

Green says there is no legal provision in the EU referendum legislation requiring the UK Parliament to act in accordance with the outcome of the referendum. “The government could decide to put the matter to Parliament and then hope to win the vote,” Green says. “In the scenario of Britain’s EU membership being put to a Westminster vote, barring no dramatic change in allegiances, it is likely that MPs would vote to keep the country in the 28-nation bloc”. Another reason to sell the rally?

As for me dear reader, I’m waiting for the dust to clear. I expect to get an opportunity to buy gold lower, sooner rather than later. Patience usually pays. And then, in my opinion, gold will resume its upward move as the market gets back to the real reasons to buy gold…economic weakness, financial instability and the madness of central banks.