Euro Crisis – A Chance to Buy Gold on Dips?

A fall below $1800 could be a good opportunity to Buy Gold...

IT IS ONLY the European Central Bank that stands in the way of the catastrophic possibility of an Italian and Spanish default, writes Sumit Roy of Hard Assets Investor.

Despite an escalation in the Eurozone sovereign debt crisis, precious metals have been rather subdued in recent trading sessions. Gold fluctuated into the $1800s, while silver stayed between $40 and $43. 

From a technical standpoint, gold looks like it has put in a double top near the $1900 level. Surely, many traders have noticed that as well and were thus reluctant to Buy Gold, fearing that upside was limited. 

At the same time, the US Dollar advanced to the highest levels in seven months as the greenback soared against the Euro currency amid speculation about a potential Eurozone breakup. In particular, Greece was back in focus with credit default swaps suggesting that there is a 98% chance that the country will default sometime in the next five years. 

Several EU officials were heard remarking that the country may be forced out of the Eurozone as the country struggles to follow through on the austerity measures required to receive its two bailouts from the EU/IMF. Without those bailout funds, a default is certain. The implications of such an outcome would be significant for the European banking sector since many banks hold substantial quantities of Greek debt.

But Greece isn't the biggest issue. That would be Italy and to a lesser extent, Spain. The fourth- and fifth-largest economies in the Eurozone continue to see pressure on their sovereign debt markets despite ongoing bond purchases by the European Central Bank. 

Yields on Italian and Spanish 10-year bonds rose to 5.71% and 5.38%, respectively, this week. Interest rates in the two countries are back on the rise after fluctuating near 5% for a month following the ECB's announcement that it would be purchasing bonds on the open market. Though off the Euro-era records of 6.4% and 6.46%, respectively, set in early August, the trajectory is concerning. 

Italy has the Eurozone's largest debt load, at $1.9 trillion Euros ($2.7 trillion). Close to 130 billion Euros of that will need to be rolled over by the end of the year. 

Last week, the European Central Bank settled 14 billion Euros ($19 billion) worth of sovereign bonds, up from the 13.3 billion Euros of the week before. That's concerning, considering that yields on Italian and Spanish bonds rose despite the increase in purchases. 

If Italian and Spanish yields were to move much higher, the countries would have trouble financing their budgets and would find themselves in a similar situation to Greece, Ireland and Portugal before them. But given how much bigger Italy and Spain are, they are seen as too big to receive bailouts. Thus, right now, the ECB is the only entity standing in the way of the catastrophic possibility of an Italian and Spanish default. 

Given the gravity of the situation, policymakers will be doing everything they can to avert the worst-case scenarios outlined above. There is no magic bullet: Either budgets will need to be cut across Europe or the ECB will need to monetize the debt, leading to inflation. 

The United States faces a similar quandary, but investors are currently willing to finance the country's enormous budget deficits at record-low interest rates. But just as we saw in Greece, Ireland, Portugal and now Spain and Italy, there is no telling when that will change.

Looking forward, the Federal Reserve's policy decision on Sept. 20 will be the next big catalyst for precious metals. Traders are anxiously waiting to see whether the central bank provides additional stimulus for the US economy. Any significant action would likely be seen as bullish for precious metals.

From a technical standpoint, dips below $1800 (and close to $1700, in particular) in gold may be good opportunities to accumulate the metal for the long term.

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