PLAYING THE SURGING PRICE OF GOLD / BARRON´S ( HIGHLY RECOMMENDED READING )

The Striking Price

THURSDAY, AUGUST 4, 2011

Playing the Surging Price of Gold

By STEVEN M. SEARS

Barrons.com is sticking with its options-based approach to investing in the yellow metal.

We recently advised readers to use options on the SPDR Gold Trust (ticker: GLD) to build positions.


We reiterate that recommendation today on recent news that South Korea's central bank just announced that it has doubled its gold holdings amid mounting concerns about the global economy.


In midday trading, gold for December delivery was up $7.40 to $1,678.20 an ounce at the Comex division of the New York Mercantile Exchange.


South Korea's gold purchase was reportedly the country's first gold purchase since the Asian financial crisis in the late 1990s. Other central banks are also buying gold, including those in Mexico, Russia and Thailand. A Credit Suisse trading advisory described the situation as if "countries are going into a 'save yourself' mode."


The original trade of selling GLD's October $158 put bid at $5.05 when GLD was at $158 has worked. The put is now bid at $3.25 and GLD is trading at $163. Rather than taking profits, let that trade ride.


Investors eager to buy gold, and who want to buy below market price, can augment the strategy. With GLD at $163, consider selling GLD's October $163 put bid at $5.50.


If GLD advances, investors who sold the October $163 put can keep the $5.50 received for selling the put. If GLD declines below $163, investors are obligated to buy GLD at $157.50. Gold prices could decline on profit-taking, but it seems unlikely given current economic conditions, and the emergence of central banks as major buyers.

These put sales are good for investors who want to cost-effectively build a position in gold.

Because the gold market is small, and because it seems that there is no end in sight to the economic problems of the U.S., or Europe, the price of gold should rally higher.


John Bridges, J.P. Morgan Securities' metals analyst, has a year-end price target for gold of $1,800 an ounce. He advised clients Thursday that gold prices and U.S. debt are correlated. This relationship has existed since at least 1994.


"We're waiting for a Paul Volcker moment," he told clients in a Thursday note. "Volcker become chairman of the Fed in August 1979 and was authorized to take the tough decisions that elected officials did not. It was only a year later in the third quarter that gold peaked. We won't be calling for the gold top until the new Volcker emerges."


Until then, gold should shine.