SENIOR MARKET STRATEGIST, GFT
UP UNTIL last week, gold and silver – like a Parisian in August – appeared to have shut up shop for the summer. In contrast, equity markets had pushed higher in a low volume melt-up that brought the Dow and S&P 500 up to levels last seen in December 2007. Even more impressively, the Nasdaq 100 hit its highest point since 2001, largely thanks to Apple. Meanwhile, crude oil reversed the majority of its May-June pullback, as a geopolitical risk premium was re-established.
But last week, silver, then gold, broke out sharply to the upside in moves which took most traders by surprise. Silver flew above $28.30/oz – a level which had acted as resistance from the beginning of June.
A day later, gold joined in on the action. It surged through $1,625/oz – the 61.8 per cent Fibonacci retracement of the December to February rally – and went on to take out its 200-day moving average at $1,645.
No doubt the two metals are getting a boost as investors continue to factor in the likelihood of further central bank stimulus. After all, both gold and silver notably failed to follow equities and oil higher over the summer and could now be playing catch-up. But this latest move feels more like a technical breakout, backed by genuine buying for other fundamental reasons.
Two weeks ago, the World Gold Council reported that overall gold consumption fell 7 per cent in the three months to June, with second quarter gold demand falling to its lowest level in more than two years. Retail buying in India fell sharply thanks to the weakness of the Indian rupee, together with increased import duties. Chinese retail demand also fell, as the economy slowed and the Shanghai Composite fell back to levels last seen at the height of the financial crisis. However, with reports of Indian demand picking up ahead of the marriage season and Diwali, it may be too early to write off the world’s two largest gold consumers.
Meanwhile, as foreign exchange and portfolio diversification continues, central banks, financial institutions and high net-worth individuals continue to accumulate gold. News that George Soros and John Paulson had significantly increased their gold holdings in their respective hedge funds in the last quarter also piqued investors’ interest. It is also worth noting that LCH-Clearnet, the clearing house, joined CME Europe in allowing the use of gold as collateral for margin cover purposes. The obvious conclusion is that financial institutions are happy to consider gold as money, even if many of the world’s leading economists (and Ben Bernanke) continue to insist that it is nothing of the sort.
The question now is: can the upside momentum be maintained? With the price consolidation that took place over the summer, gold and silver have built solid bases from which to head higher. The risk for both metals is that the current rally is based solely on the expectation of further central bank stimulus from the Federal Reserve, European Central Bank (ECB) and People’s Bank of China. If this is the case and such stimulus ultimately fails to materialise, or if a public argument builds over bond purchases between the ECB and the Bundesbank, then gold and silver could pull back sharply.
The Fed could easily disappoint by holding off from further large scale asset purchases until after the US presidential election in November. But the appetite for further stimulus is strong due to high levels of unemployment, tepid growth and the need to keep bond yields firmly anchored. In addition, the Eurozone debt crisis looks set to escalate further.
Geopolitical risk is also increasing: the hostilities in Syria, together with rising tensions between Iran, Israel and the US, could easily converge and then set off a chain of events which have the potential to spread worldwide. Given this uncertainty, it is no wonder that precious metals are once again being sought out as safe havens.