Each Quarter FastMarkets and Sucden Financial produce an analysis and forecast report on the Precious and Base Metals. Below is the Gold report, to read the full report covering all the metals in pdf form click here.
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Gold – looking vulnerable as resistance persists
Gold prices remained more or less unchanged in the second quarter amid a lack of safe-haven bids despite growing fears of a possible Greek exit from the eurozone (Grexit) and a weak physical market. While a Grexit is not in our base case scenario, our belief that the Federal Reserve could start firming monetary policy as soon as September should now be revised somewhat given the impact on US data as exports are already starting to falter due to the strong dollar. We therefore expect limited buying from gold ETFs and renewed selling in the futures market. With the market entering a seasonal slow period, we hold the view that the risks to gold prices in the third quarter are predominantly skewed to the downside.
Overall trend – Gold attempted to edge higher in May, reaching a high of $1,230. But the rally proved short-lived partly because of a strengthening of the dollar that pushed the metal to a low of $1,163 in early June. Prices remain skewed to the downside – they are currently below the psychologically important $1,200 level as well as their 2015 average. Prices are expected to range between $1,150-1,220 in the third quarter, possibly with a short term downward spike as the current Greek issues appears to be resolved and Chinese problems sort themselves out.
Absence of safe-haven bids – Despite growing uncertainty stemming from the Greek crisis, gold prices have not reacted positively – ETF investor interest toward gold is limited and buying in the futures market is muted. Although the poor gold price performance may seem counter-intuitive, we attribute it to the fact that investors have not become sufficiently risk averse. While it is true that global equities have sold off recently, which could be interpreted as a sign of risk aversion, the widening of spreads between bond yields in peripheral economies and those in core countries has been relatively limited (compared with 2012 when the contagion risk was at its peak). Since gold tends to be viewed as a hedge against sovereign debt crises, the current low risk of contagion from Greece – as perceived by the financial markets – has rendered gold relatively unattractive. Although we acknowledge that contagion risks are more likely to grow than shrink, we believe that the ECB, which is better equipped than it was in 2012, should intervene to prevent contagion. If so, gold prices are likely to remain weak in the third quarter. Our bearish view is reinforced by the Federal Reserve’s judgment that a higher interest rates may be warranted before the end of the year, which could drive US real interest rates higher and, consequently, gold prices lower, as it was the case in the 1983-1984, 1988-1989, 1994-1995 and 1997 rate hike cycles.
Physical demand – Demand from the physical market is likely to slow during the summer months due to seasonal factors until September when the festival season kicks off in India. Seasonal patterns seem to be consistent with the latest statistics. In India, gold has traded at a discount of around $8 per ounce over the London spot price, reflecting weak demand from farmers that has been triggered by fears over a possible sub-par monsoon season. Physical demand in China has weakened so far this year – investors appear to have favoured the local equity market.
Central banks – Central banks and other official institutions continued to accumulate gold in the first quarter, according to the World Gold Council. Net purchases, which were broadly unchanged from the fourth quarter of 2014, amounted to 119.4 tonnes. Russia purchased 30 tonnes, reflecting strong buying from the central bank to underpin its credibility, which was damaged due to geopolitical tensions with the West. More importantly, we believe that central banks and other official institutions are unlikely to lose their appetite for gold in the long run after becoming net buyers in 2010. This is especially the case for central banks in emerging markets, who owned less gold relative to central banks in developed countries.
ETF investors sold a net 24 tonnes of gold in the second quarter after net inflow of 20 tonnes in the first. Net outflows so far this year have been quite limited at four tonnes compared with 45 tonnes in the same period of last year and 597 tonnes in 2013.
The increase in the net spec length since April has been capped by the steady accumulation of short positions. Although a short-covering rally could occur in the short-term, we do not expect it to be sustainable.
Gold prices and US real interest rates tend to be negatively correlated (-0.86 from 2012 onwards). While lower real interest rates in early 2015 helped gold prices climb, the rise in real interest rates since May seems to have exerted downward pressure on the metal. This could continue as the year evolves since the Federal Reserve is expected to tighten its monetary policy stance as soon as September.
The world’s central banks, net buyers since 2010, have continued to purchase gold in 2015 although the pace is less aggressive than it was at its peak in 2012. We believe that central banks, most notably in emerging economies, could continue to slow the pace of their buying this year because their FX reserves may come under pressure from tighter US monetary conditions.