Heresy from CNN Money
Gold's worst days are coming
The expectation of the Federal Reserve's tapering isn't the only thing pushing gold prices down.
FORTUNE -- Up until last year, gold prices rose for at least 11 years in a row. The precious metal spawned a frenzy among everyone from gold bugs to politicos who think America should return to the gold standard. But today they're likely feeling nervous. Gold prices have entered bear market territory, having fallen by 22% this year.
And it's going to get worse as investors zero in on whether the U.S. Federal Reserve will scale down its stimulus program, called quantitative easing. Goldman Sachs ( GS) analysts say gold will continue dropping into 2014, possibly falling below $1,000 an ounce, a level not seen since early 2009. This is a reverse from gold's steady rise from $800 an ounce in early 2009 to more than $1,900 in the fall of 2011; on Tuesday morning, it was trading at $1,314.50 in New York.
Regardless whether the Fed tapers its bond-buying program this week or later, a few other factors will likely drive prices lower.
Inflation. What inflation?
Gold is typically a hedge against rapidly rising prices. Since the financial crisis, many economies from U.S. to Europe have launched several rounds of quantitative easing. The supply of money tripled in most advanced economies, and many worried it would effectively stoke inflation.
Unless all you consume is bacon, inflation hasn't been a problem as the U.S. and the rest of the world retreats from financial abyss. In fact, global inflation is actually low and falling further. In a June article in Project Syndicate, New York University economist Nouriel Roubini forecast that gold could fall to $1,000 by 2015.
Roubini, nicknamed Dr. Doom for his forecasts of the financial crisis, noted that even though the supply of money has expanded it hasn't changed very many hands, largely because banks have been hoarding cash in the form of excess reserves.
If banks start lending more, however, the risks of inflation could rise. Even then, gold faces other headwinds.
It may be safe, but where are the returns?
Unlike other assets, gold provides no income. That was an overlooked issue during the worst years following the financial crisis, but now that the economy is improving, gold must compete with returns on other investments, such as stocks, bonds, and real estate.
Since Bernanke hinted it could scale back the Fed's bond-buying program soon, interest rates have surged, and they're poised to rise further. This effectively puts gold in a tough spot, as investors sell off the precious metal seeking higher returns in stocks, bonds, and other investments.
"The time to buy gold is when the real returns on cash and bonds are negative and falling," Roubini writes. "But the more positive outlook about the U.S. and the global economy implies that over time the Federal Reserve and other central banks will exit from quantitative easing and zero policy rates, which means that real rates will rise, rather than fall."
Crisis in Syria has subsided (at least for now)
Gold is widely viewed as a safe-haven investment. When crisis arises, investors flock to the precious metal as a safe store of value.
Markets have been zeroing in on conflicts in Syria, which could potentially push gold higher. At least for now, however, a military strike looks less likely as the country has accepted Russia's proposal for its chemical weapons to be given up for U.N. control. It remains to be seen if Syria is serious about its offer, but it does make U.S. military strikes less likely, at least in the near-term, according to JPMorgan analysts.
And even if the offer isn't serious, it's uncertain if Congress would vote for military action.
Another debt ceiling debate could be a snooze
There's another crisis to consider that could sway the direction of gold: The debt ceiling.
As Americans will recall, there has been not one drama-filled deadline -- but two -- since 2011. The first almost pushed the economy into catastrophe, with a major ratings agency taking the nation's stellar triple A rating away. The issue was resolved through $1 trillion in discretionary spending cuts combined with sequestration. The second one followed shortly after Obama's re-election, and like the first one, Republicans and Democrats came to an agreement; the debt ceiling was raised.
Come September 30, the nation will approach another deadline. It's likely that the market might snooze through the third debt ceiling debate, as the previous ones were ultimately resolved. That would keep downward pressure on gold, but there is of course a possibility that the latest debt ceiling drama may turn out differently: Republicans say they will raise the debt ceiling only in return for budget concessions, while the Obama administration says it won't offer any.
Eventually, either side will likely budge, but as the Washington Post's Ezra Klein points out, what alarms him now is that "no one can tell me how one or both of those positions will change before we breach the ceiling."
That uncertainty may send gold higher, but it hasn't, at least not so far.
finance.fortune.cnn.com
Forbes article from June 2013
TDS: Eventual QE Tapering To Hurt Gold; Potential For Short Covering Into September
Gold is likely to suffer further whenever the Federal Open Market Committee starts tapering its quantitative easing program, although the metal may first claw back above $1,400 an ounce into September as some data are likely to remain soft and short covering sets in, said TD Securities Tuesday.
Base metals are also likely to come under some pressure, the firm said. Platinum group metals, however, are expected to fare better as the market focuses on their expected tight supply/demand fundamental picture.
Commodity strategists held a conference call with investors to address how they expect tapering to impact precious and base metals alike. This came on the first day of a two-day meeting of FOMC members, although TDS strategists say they expect a “dovish” outcome and for any QE tapering likely to be a few months away yet.
Quantitative easing is the term the market has adopted for a program in which the Fed is currently buying Treasury and mortgage-backed securities at a rate of $85 billion a month, meant to push down long-term interest rates and thus underpin the economy. QE has driven gold higher in the past, but the metal is weaker so far this year as traders started looking ahead to tapering.
“The very mention of QE tapering, or reducing the Fed’s participation in the bond market, has had a very dramatic impact on gold and silver, in particular,” said Bart Melek, head of commodities strategy at TDS. Spot gold has fallen from nearly $1,700 an ounce in January to below $1,400.
The Fed upped its asset purchases late in 2012 at a time when there were fears that a protracted stand-off over the U.S. budget might mean the economy would fall off of the so-called “fiscal cliff,” a combination of automatic tax hikes and budget cuts that would go into effect if lawmakers did not come up with an agreement. A deal on taxes was made early in the year and the economy did not go over the “cliff,” although there has been a “bump in the road” to recovery, Melek said.
“So far, the (QE) program has worked fairly well,” Melek said, citing an improving U.S. housing market and a rise in employment, although not as strong as most would like. The open-ended QE program kept yields low, not only reducing funding costs such as mortgages but with the flat yield curve forcing banks to increase lending.
Meanwhile, gold has fallen as traders began factoring in an eventual unwinding or tapering of easing, although the move in this and bonds suggest the market has factored in something more severe, Melek suggested.
“Tapering does not mean the Fed stops buying Treasurys altogether and starts unloading its massive holdings of about $3.4 trillion of assets onto the market,” Melek said. “Tapering means what the word suggests – to slightly take off the participation level in the bond market.”
For instance, the Fed might cut back to buying $65 billion a month, Melek explained. This would still be “very accommodative,” as liquidity would keep increasing, albeit at a slower pace.
“The market, I think, has mistakenly taken this to mean maybe something else, judging by the reaction of the bond market,” Melek said. “That had a horrible effect on gold.”
Ten-year U.S. Treasury yields rose to as high as 2.27% from around 1.6% last month. This increased the so-called “opportunity cost” of holding a zero-yielding asset such as gold, Melek said. Opportunity cost refers to lost income, such as interest earnings, from holding an asset such as gold that does not pay interest or dividends.
Gold Could Fall To $1,275 With Short-Covering Bounce First
TD Securities looks for the Fed to start tapering this fall, perhaps in September. As a result, gold prices may fall back to around $1,275 and silver to $20.
The TDS view is that 10-year yields will rise to around 2.45% by the end of the fourth quarter and around 3% next year, Melek said. “That suggests the opportunity cost of holding gold is likely to go higher and higher,” he said.
Further, this would likely boost the U.S. dollar due to interest-rate differentials with other countries. This in turn hurts precious and base metals two ways, Melek explained. A stronger dollar makes them more expensive in other currencies, thus can hurt demand. Plus, a muscular greenback means overseas mining companies receive more of their own currency as payment, thereby offering an incentive for higher production.
Further, as appetite for other assets such as equities improves, investors may be less willing to keep hanging onto their gold.
TDS does not look for U.S. inflation to accelerate in the immediate future. However, accommodative central-bank policies might eventually trigger inflation, although it might be late in 2014 or 2015. As a result, “I wouldn’t get rid of all of my gold,” Melek said.
But while the firm looks for an eventual retreat into the $1,200s, gold also may first get back above $1,400, Melek said.
He looks for the Fed to go to great lengths to say any tapering will be “a measured program” that will be data-driven, and that the federal-funds rate will not rise until U.S. joblessness falls to around 6.5%, Melek said. TDS does not look for the Fed to actually hike rates until 2015.
“We still haven’t given up on our $1,400-plus call for Q3,” Melek said. “We do think we’re going to have some lousy (U.S. economic) data over the next few months.”
Many large speculators have flipped to short positions in gold in anticipation of further declines, said Mike Dragosits, commodities strategist with TDS. This leaves the market vulnerable to a short-covering rally in which traders buy to offset these positions, particularly on weak economic data.
“If we do get catalysts to get some of these speculators to cover, we could see a minor short-term spike up…,” Dragosits said.
Otherwise, downside risk remains in place for gold and shorts may “continue to lean on the yellow metal” and pressure it. “At this point, I think the only thing that could really change the direction of gold would have to be a considerable change in the environment, which would mean we have to move back to crisis mode and there would be a safe-haven bid that comes back in,” Dragosits said.
QE May Also Hurt Base Metals; PGMs Focused On Supply/Demand
Base metals also may be hurt by QE tapering and any resulting dollar weakness, although such industrial metals may have less downside risk than gold since they are driven more by supply/demand factors, Melek said. At the moment, they are being hurt by slower economic growth in China, although the government eventually may turn to more stimulus.
Meanwhile, platinum and palladium are likely to be more of a “supply/demand story,” Melek said. Large supply deficits are widely expected for these metals this year.
Dragosits pointed out, however, that speculators are already heavily net long in the platinum group metals and have perhaps been unwinding off some positions lately to capture profits, resulting in a price pullback. There is potential for more near-term liquidation.
Still, “from the fundamental side of things, we’re pretty bullish the PGMs,” he said. |
