By Mark Hulbert
Gold investors are still too bullish
Gold's plunge last Friday is not the end of its struggles. That's because, even in the wake of Friday's plunge, gold investors are still exuberant.
This absence of bearish fear suggests to contrarian analysts that more downside is ahead for gold (GC00).
Consider the average recommended gold-market exposure among a sample of several dozen gold-market timers monitored by my performance-auditing firm. (This average is represented by the Hulbert Gold Newsletter Sentiment Index, or HGNSI.) Prior to Friday's big drop, the HGNSI stood at levels hardly ever seen over the last 21/2 decades - at the 99.7th percentile of its daily distribution since 2000. The HGNSI dropped only slightly on Friday and, as a result, it's still higher than on 84.4% of all trading days since 2000. Contrarian &#34;buy&#34; signals come when this percentage falls below 10%.
Read: Buy into gold's weakness, say JPMorgan and Deutsche Bank
Also: 'Bearish engulfing' patterns are warning you: Don't buy the dip in gold-miner stocks
Listen to the contrarians
Contrarian analysis is useful in times like this because, without it, drops such as Friday's are a mystery. Analysts are forced to look for fundamental explanations. But in the current instance, at least, they will look in vain: Nothing fundamental changed with gold on Friday to justify the day's big decline.
Some analysts, for example, speculated that inflation expectations must have dropped on Friday - possibly in reaction to President Donald Trump's nomination of Kevin Warsh to be the next chairman of the Federal Reserve. If so, that could have accounted for gold's drop, since gold is often considered an inflation hedge and Warsh is considered an inflation hawk.
But the evidence doesn't support this. Take the break-even inflation rate, which is the rate at which investors are indifferent between holding nominal Treasurys and inflation-protected Treasurys (TIPS). This break-even rate represents the market's collective judgment of inflation's magnitude in the coming years. Both the 5-year and 10-year break-even rates rose on Friday - dismissing the possibility that reduced inflation expectations caused gold's big price drop.
Campbell Harvey, a finance professor at Duke University's Fuqua School of Business, agreed that it's a mistake to blame the Warsh announcement for gold's big Friday drop. Harvey has authored several studies recently analyzing gold's role in investors' portfolios (including &#34;Understanding Gold,&#34; &#34;Gold and Bitcoin&#34; and &#34;Tokenized Gold&#34;). In an email over the weekend, he wrote that attributing Friday's drop to Warsh's nomination is a &#34;red herring.&#34;
Other analysts have speculated that economic policy uncertainty might have fallen dramatically on Friday. That could have also accounted for gold's drop, since the yellow metal is also considered a hedge against that uncertainty. But once again, the evidence doesn't support that possibility. Though the Economic Policy Uncertainty (EPU) index is quite volatile on a day-to-day basis and therefore contains a lot of noise, I note that there were nine other days in January when the EPU was lower than where it stood at the end of the month - and yet gold didn't plunge on any of those other days.
The bottom line? There was widespread exuberance in the gold market prior to its plunge, and only a small part of that exuberance has been wrung out of the market. Expect gold prices - and investors - to struggle in the days and weeks ahead.
Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at mark@hulbertratings.com
More: Gold and silver's $7 trillion wipeout delivers a painful lesson about risk
Also read: Kevin Warsh isn't who investors think he is - how you can profit from their mistake
-Mark Hulbert
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02-02-26 1508ET

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<p>Gold prices plunged recently, but the selloff is expected to continue as investors remain overly bullish. The Hulbert Gold Newsletter Sentiment Index indicates that sentiment is still high, suggesting more downside is likely. Analysts have dismissed fundamental reasons for the drop, such as inflation expectations or economic policy uncertainty, as unsupported by evidence. The overall exuberance in the gold market has not been sufficiently reduced, leading to predictions of ongoing struggles for gold prices in the near future.</p>

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