It's starting to feel like we are part of a giant poker game against the US government, whose hand is the true condition of the American economy. The government has become so good at bluffing that most people feel compelled to watch how the biggest players in the game react to determine their own investment strategy.
Unfortunately, this past month revealed that even pros like Goldman Sachs have no idea what sort of hand Washington is really hiding.
Goldman Bets Against Gold
A week into the government shutdown, Jeffrey Currie, head of commodities research at Goldman Sachs, declared that gold would be a "slam dunk sell" if Washington resolved the budget debate and raised the debt ceiling. The call was based on an underlying narrative that the US economy is experiencing a slow, but inevitable, recovery.
Taking this recovery as a foregone conclusion, conventional Wall Street analysts saw two clear choices for Washington. On the one hand, Congress could reach an agreement, raise the debt ceiling, and allow the recovery to continue. This would allegedly have been the final nail in the coffin of the safe-haven appeal of gold.
On the other hand, if no agreement were reached, the government would have been forced to default on its debt. This would have erased any signs of recovery and sent the economy spiraling back into a terrible recession - while boosting the gold price.
Goldman reasoned that Washington would never allow the latter to unfold and suggested investors prepare to short or sell gold.
While Washington did kick the debt can down the road as predicted, gold rallied 3% on the news - the complete opposite of expectations. That is, expectations outside of Euro Pacific.
Misreading the Signals
After seeing an investment theory crushed by reality, a rational investor would take a moment to reexamine his premises. In Goldman's case, this would mean second-guessing the conventional belief in an imminent or ongoing US economic recovery.
Yet, the day after Washington reached an agreement, Currie reaffirmed to Goldman's clients that his US economic outlook for 2014 is positive and that he believes gold faces "significant downside risks."
Currie must not have wanted to muddy his message by acknowledging that his original forecast was flat wrong. He did, however, hedge his statements by acknowledging that the Federal Reserve would likely hold off on tapering its stimulus until next year.
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