4.3.2013 > Articles > Gold & SilverComment

Investment Banks Are Now Very Confused About Gold

After dropping to a seven-month low of $1,554 an ounce the week prior, spot gold saw its biggest one-day gain since last November after Federal Reserve Chairman Ben Bernanke reaffirmed the central bank's commitment to easy money policies on Tuesday. But amid weak market sentiment, bearish price forecasts, and record short positions, futures market buyers quickly turned back into sellers as precious metals ended lower for the fourth straight week.

Uncertainty following inconclusive elections in Italy combined with more signs of an improving U.S. economy to bolster the dollar and this too pressured metal prices (recall that gold and silver often move opposite the trade-weighted dollar). Sales of gold and silver coins in the U.S. were strong in February and central banks continued to buy gold, however, more attention is being focused on the record outflows from gold ETFs, though this should be little cause for concern.

For the week, the gold price fell 0.3%, from $1,581.50 an ounce to $1,576.80, and silver dropped 0.6%, from $28.76 an ounce to $28.58. Gold is down 5.9% for the year, now 18.0% below its 2011 high, and silver is now 5.8% lower in 2013, down 42.3% from its high 22 months ago.

It is now clear that the Fed meeting minutes released on February 20th were widely misinterpreted as Fed Chief Ben Bernanke set the record straight last week regarding the central bank's ongoing money printing effort. While delivering the bank's semiannual testimony to Congress, Bernanke made clear that he and most others on the policy committee see no end in sight to the $85 billion per month bond-buying program. Perhaps more importantly, he downplayed the associated risks of creating asset bubbles and producing higher inflation.

In short, any suggestion that the Fed will halt quantitative easing in the near-term or consider interest rate hikes is ill-founded.

Importantly, the sequestration cuts that went into effect on Friday now make it more likely that monetary policy will remain easy even longer than previously believed since the $85 billion in spending cuts are likely to knock about a half%age point off of U.S. economic growth this year.

Of course, sentiment in precious metals markets being what it's been in recent months, the Fed Chairman's positive impact on the gold price was short lived.

As shown below, the correction that began in late-2011 has started to chart a decidedly different course than prior corrections, adding to the growing belief that the long-term gold bull market is now over. As detailed in past commentaries (and in more to come), it's not, but it may be difficult for some precious metals investors to hold their convictions in the period ahead, that is, until some new positive catalyst develops.

(click to enlarge)

One possibility for a positive gold catalyst this month is the March 27th deadline for Congress to pass a continuing resolution to fund government spending.

A 1990s-style government shutdown (an outcome most analysts think will be avoided) might prompt more warnings, or possibly a downgrade itself, from the two credit rating agencies that maintain a Triple-A rating for the U.S. debt and this would surely affect the trade-weighted dollar and metal prices.

Also, the debt ceiling must be raised again sometime after the May 18th extension lapses. However, since special measures will again be used to extend the effective deadline, this is more of an issue for late-summer than spring.

It's important to remember that the gold price reached an all-time high during the 2011 debt ceiling crisis and the nation's budget woes are far from solved. Policy makers have done a superb job of "kicking the can down the road" but have yet to deal with the seemingly intractable problems of taxes and spending and, when factoring in the likelihood of a credit downgrade, this is still a potential catalyst for higher precious metals prices.

Futures traders don't seem concerned about the government's finances and, as a result, have been adding to their gold short positions. The Commodity Futures Trading Commission reported last week that net long positions fell a stunning 40% for the week ended February 19th - the sharpest decline since 2007 - and are now down almost 80% since October.

The recent change in sentiment has come solely from speculators as gold producers and users now have their lowest net short position since 2008, while those with no interest in supplying or taking delivery of the metal have record high short positions.

This serves as a timely reminder that, for better or worse, the futures market sets precious metals prices over the short-term.

Over the long term, however, it is physical supply and demand that will dictate the direction of prices and there was good news on that front last week.

The International Monetary Fund reported that Russia and Kazakhstan added to their gold reserves for a fourth straight month in January, up 12.2 tonnes and 1.5 tonnes, respectively. Holdings of Azerbaijan and Turkey also rose as central bank buying remains an important source of gold demand in 2013 after this group purchased 535 tonnes of gold last year, the highest one-year total since 1964.

The U.S. Mint reported that it sold 80,500 ounces of American Eagle gold coins in February, up a whopping 283% from a year earlier and 28% higher than the average monthly sales total last year. While this is down from the two-and-a-half year high of 150,000 ounces sold in January, it's important to remember that gold coins sales are very seasonal with high demand coming in January when new year issue coins are first available.

Strong coin sales persisting into February is uncommon and this is indicative of strong physical demand that was also seen for silver.

American Eagle silver bullion coins posted their highest February sales total since 1986 after a record-setting performance in January that forced the mint to twice suspend sales. Silver Eagle coins sales totaled 3.4 million last month, more than double the sales of a year earlier, as long-term investors took advantage of temporary price weakness.

All of this comes at a time when gold ETFs are seeing record outflows as hedge funds and other investors search out higher yielding assets such as U.S. stocks and place bearish bets on currencies such as the Japanese yen and British pound.

The SPDR Gold Shares ETF (GLD) saw 26.8 tonnes exit its trust last week after an outflow of 42.3 tonnes the week before. As detailed in Are Record Outflows From The SPDR Gold ETF Cause For Concern?, there is little correlation between ETF holdings and the gold price, however, this bears close watching as widely publicized sales of GLD by hedge funds have clearly affected market sentiment.

Interestingly, while gold ETFs see record outflows, silver ETF holdings continue to rise as the iShares Silver Trust ETF (SLV) added 48 tonnes last week, bringing its year-to-date increase to 566 tonnes.

It's not clear what the near-term holds for precious metals, however, over the long-term, the current price weakness is sure to be looked back upon as simply another buying opportunity.

As shown below via this item at USAGold, we are in another "Staging Area", similar to ones from which gold and silver prices have advanced in the past.

(click to enlarge)

So, how does one explain why this "Staging Area" is lasting longer than prior ones? The lengthy period of price gains from early-2009 until late-2011 is surely a factor.

I'd not really considered this until looking at this chart, but it makes sense that the current correction might take longer since the prior correction was so mild. In fact, the correction that began in late-2009 shown in the first chart above wasn't even deemed worthy of the "Staging Area" designation in the second chart. (Note: I've taken the liberty of adding the "Mild Correction Starting in Late-2009″ annotation to the chart directly above to help make this point).

Gold demand in China and India is expected to rise in the period ahead as buyers take advantage of lower prices. Moreover, the lack of any new measures by the Indian government to curb gold imports when a new budget was released last week should also help.

New wedding season buying is expected to begin in April and, in China, the central bank is surely adding to its reserves at lower prices as new gold ETFs prepare to launch. According to the World Gold Council, demand from China and Indian - the world's two biggest sources of gold demand by a wide margin - is expected to rise at least 11% this year.

It seems that U.S. hedge funds and futures speculators are about the only groups that are bearish on precious metals right now and, unfortunately for the rest of us, they control gold and silver prices over the short term.

Their bearish mood was exacerbated last week with another round of lowered price forecasts, notably from investment bank Goldman Sachs (GS) which reiterated its call that the long-term bull market is over. Goldman revised its 2013 gold price forecast from $1,810 an ounce to $1,600 and its 2014 outlook from $1,750 to $1,450 with a long-term target of $1,200.

I share the view expressed by Mike Kosares in the USAGold article referenced above:

Speaking of the insurance/speculation syndrome, some of the very same institutions that were predicting a gold price between $1800 and $2200 at the end of 2012 are now predicting the price is going to crater. These fickle, trendy analysts tend to go with the flow and few of them fully acknowledge the real reasons why investors buy gold, or even central banks for that matter. They forever see it as a price play, like a common stock or aluminum futures. Thus they adjust their target price up or down hoping to create some trades amongst their clientele.

Credit Suisse recently noted that an "unwinding" of the gold bull market has begun and Societe Generale's (GS) strategists commented last week that the metal's price rise over more than a decade is in jeopardy.

UBS (UBS) analysts remain bullish, predicting "a major gold rally" this year, and BofA's MacNeil Curry said that sentiment is at such an extreme that "a bottom and bullish turn in gold is close at hand" with "a longer-term upside potential into the $2100-2300 to $3000 range".

It seems that investment banks are far more confused than individual investors about the direction of precious metals prices.

Source: Iacono Research





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