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In This Issue
Futures Quotes & Charts Update
Reports and Expiration Notices
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Newsletter Archives
May 7, 2008
We are currently in the process of upgrading our quotes and charts on e-futures.com. Be sure to check back at the end of the week to experience all of the new and improved features our new quotes and charts will bring.
by Tom Pawlicki, Man Financial
Precious Metals Executive Summary
Gold is expected to generally trade higher over the next few months. Prices could move down toward $600 in the near-term, but $700 is expected to be seen by fall. Support will come from diminishing CBGA gold sales and potential buying by Chinese and Russian central banks, and expectations for a weaker dollar. Support will also come from technical factors, which show that the May- Jun '06 correction held above two key support levels. The seasonal offers support from Aug 1st through year-end. Pressure could come from comparisons of the '05-'06 gold rally to other major market peaks such as the 2000 Nasdaq and the 1980 gold market. Supply/demand balances are expected to remain in favor of surplus over the remainder of the year. Best trade is to buy breaks in gold near the $600 level and target a rally toward $700.
Gold Market Outlook
The gold market is expected to trade in-line with the seasonal pattern by trading sideways until forming a bottom in late- July/early-Aug. Gold is expected to trade firmly after forming a bottom and move up toward the recent $728 high. Key factors supporting the market in 2H '06 will be the probability that global equity markets can form a lasting long-term bottom and the probability that global central banks don't over-tighten. Background support will come from growth in ETF holdings, slowing official sector sales, a weaker dollar, and ongoing geopolitical tensions,. Fallout from the spring '06 mini-bubble and positive seasonal tendencies will dictate technical direction. Best trade is to buy GCQ6 at $600 targeting $700 while risking $575.
Gold Supply/Demand Balance
In April, Gold Fields Mineral Service released their annual Gold Survey, which detailed the supply/ demand situation and discussed factors affecting those numbers. In late-May, those numbers were updated for the World Gold Council's first quarter report. 2005 supplies were revised +6 tonnes from the April GFMS survey and demand was revised -22 tonnes. Net surplus was thus revised up to 184 tonnes from 156 previously. The 2005 surplus compares to a deficit of 136 tonnes in 2004 and a surplus of 688 tonnes in 2003 (table at right).
The WGC report in late-May encompassed data through the end of March. Gold ended March at $582 on the London fix, and averaged $554 for the quarter. What these number don't show is the effect the 2006 price spike had on demand. The price spike gained momentum in April and May, and we calculate the average Q2 price to be $627.70.
WGC reported that Q1 supply fell 15% y/y due to decreased central bank sales and increased de- hedging on the part of miners. Central banks sold 116 tonnes in Q1 vs. a 2005 average of 165 tonnes per quarter. De-hedging took out 160 tonnes in Q1 vs. 32.7 tonnes on average in 2005. Gold mining was +5% y/y to 607 tonnes vs. 630 tonnes in 2005's average. Gold scrap sales were +51% y/y to 305 tonnes vs. 215 in 2005's average. We're guessing that the trend in de-hedging will slow in Q2 based on the incentive to hedge at high prices. Also, companies like Newmont Mining (second largest gold miner) never hedged anyway. Newmont's CEO is also head of the WGC and has said gold is early in the bull market, but it's also in his interest to do so. Overall, supply is expected to remain strong in the remainder of the year, especially if prices remain firm.
On the demand side, total demand in 2005 fell 65 tonnes to 3,858 tonnes vs. 2004 demand of 3,923 tonnes. Obviously, the $35.30 higher average price of gold had a strong effect on demand. Prices were even higher in Q1 at $554, and in Q2 at $627. Looking at the WGC report for Q1, jewelry demand fell to 531 tonnes vs. a 2005 quarterly average of 678 tonnes. A large part of that decline is explained by India, which consumes around 22% of the world's gold jewelry and is the largest single consumer. Indian demand for gold jewelry fell 38% in Q1 on a y/y tonnage basis. Demand for the April 30th Akshaya Thrithiya holiday reportedly was strong, however. The key factors hurting Indian demand were the decline in the stock market (chart 1), and the series of rate hikes on which its central bank has been embarking. From its May 11th peak, the India stock market fell nearly 30% within one month's time.
Jewelry demand at the fourth largest consumer, Turkey, fell 43% due to gov't fiscal crisis and weakness in the Lira. Demand in China rose 2%, with strong sales around the Chinese New Year and Valentine's Day periods reported. Strong demand for limited edition Olympic bars is also being reported. In other regions, demand in Saudi Arabia fell 30% due to a stock market crash in February 2006. Demand in both UAE and Kuwait fell due to the mourning of each country's leader. U.S. demand fell 5% in tonnage terms but was +23% in dollar terms. Similarly, global demand was down 22% in tonnage terms, but was +2% in dollar terms.
One final and new component of demand is ETF demand along with general investment demand. In Q1, gold ETF demand soared to 109 tonnes, or more than half of 2005's full-year gain. GLD and IAU accounted for 90% of that gain. Part of that gain is attributed to the drop seen in the commitment of traders data, which showed that combined reportable and non- reportable net positions fell by 123 tonnes.
In Q2, both ETFs gained only 29.8 tonnes with the slow-down in growth due to higher prices of gold. Most of the gain came in June when prices dipped below $650/oz. If the same 90% share rule applied in Q2, WGC then would report around 33 tonnes of ETF demand when the Q2 report is released. Chart 2 shows that trend reversals in gold ETF holdings have preceded trend reversals in the gold price. Additionally, ETF holdings did not fall commensurately with the decline in price. That shows accounts that may never pull out of the ETF or accounts that use the ETF for diversification. Commitment of traders data show an additional 104 tonnes of futures demand was liquidated in Q2, so switching into ETFs again explains part of the gain.
Investment demand should remain strong, as portfolios look for a way to diversify holdings, protect against inflation, and jump into the ETF craze. A significant portion of investment flows came from Indian investors, who reportedly were spending as much on gold as an investment this year as they spent on gold jewelry.
Global Central Banks Rate Policies
The state of global central bank policy has had a direct bearing on global equity markets as well as on gold traders' views of inflation in the past couple years. The U.S. Federal Reserve has engaged in a two-year long battle with inflation that has raised the Fed Funds rate 17 times from 1.00% to 5.25%. On June 29th, the Fed signaled that it may enter a pause in the rate hike- cycle. The past two years have been strong for gold on the belief that the Fed was falling behind in preventing inflation, and/or other global central banks were slow to act to stem inflation and strong economic growth in their countries.
The ECB is thought to be in the middle of its tightening cycle, having already raised overnight rates from 2.00% to 2.75% in the past seven months. The ECB was exhibiting a tendency of raising rates every three months by raising in Dec, Mar, and Jun. The next likely rate hike would be in Sep, but ECB officials have suggested it will come as early as Aug. Japan, on the other hand, is in the early stages of a rate-hike cycle. On Mar 9th '06, it signaled that it would end its Quantitative Ease policy by cutting its current account surplus from Y30T to Y6T in the three months ending in June. The most recent data showed a deficit of around Y15T, so it is making progress. Additionally, BOJ officials have signaled recently that it is ready to end Zero Interest Rate Policy "without delay." MGR expects the BOJ to raise rates sometime in July, while market consensus is in the Aug-Sep timeframe. This could be bearish for gold due to the loss of the carry trade. It may be a gradual process though, as rates are expected to be raised in 1/8% increments. Other central banks are joining in rate hikes as well, including Turkey, South Korea, India, South Africa, Sweden, Norway, and of course, China. The recent wave of tightness by central banks has depressed global stock and commodity markets. India's benchmark traded nearly 30% off its May 12th high at one point in June. That kind of decline is a once in a generation move in the U.S. There was also a sizable decline in the Saudi Arabian and Dubai stock markets in Feb as well.
There's a second aspect to global central banks that will affect near-term gold prices, which is the G7 and its efforts to correct global imbalances. On April 22nd, G7 ministers agreed that "in emerging Asia, particularly China, greater flexibility in exchange rates is critical to allow necessary appreciations and lessening reliance on export-led growth." Ministers suggested that U.S. trade and current account balances would finally be addressed. The Chinese responded by raising the one-year lending rate to 5.85% from 5.58% on Apr 27th. Chinese PBoC Advisor Yu Yongding later said that China should allow the central bank to become more independent and should take away irrelevant tasks such as fixing the Yuan rate. The statement was another signal that the Chinese were beginning to act on imbalances.
The G7's statement immediately sent the dollar lower and it continued so until bottoming on May 12th. Metals markets liked the weaker dollar because it signaled higher inflation. Metals also reversed on May 12th. There were several dynamics at work around the May 12th reversals. Metals were exhibiting super-spike characteristics, while the dollar was severely oversold. It was also tough for the dollar to remain down, given that the U.S. Fed was tightening hard on inflation at the same time other central banks were doing it at a more leisurely pace. Chart 3 shows the dollar's action around the Apr 22nd meeting and the May 12th peak. Given the potential for continued rate hikes globally, for U.S. to pause, and the negative technical situation in chart 3, the dollar is expected to continue to weaken over the next several months and thus support gold.
While a weaker dollar is bullish for metals, reforms in China are a double-edged sword. On one hand, a stronger Yuan would make gold prices cheaper to Chinese consumers who are relatively new to material wealth. On the other hand, reforms in China will slow the Chinese economy, thus limiting demand for metals. Chart 4 shows part of the result of Chinese manipulation to keep the Yuan artificially low. U.S. trade and current account deficits have reached records recently, and those twin deficits have been the main arguments in favor of gold used by gold bugs. Those arguments, however, have been around for decades. The U.S., has continually been a higher yielding and as safe or safer place to invest, so it has always been able to finance the deficits. Financing for the deficits has typically come from Japanese investors looking to earn more yield or the Chinese who invest the proceeds from Yuan sales.
Gold will likely be conflicted in near-term trade based on central banks. The U.S. Fed is near the end of its rate-hike cycle and signaling a pause, which is dollar-bearish and gold-bullish. At the same time, European and Asian central banks are in the middle and beginning of their respective tightening cycles, which is gold-bearish. The removal of the carry trade with the Yen will also be gold-bearish. A revaluation of the Chinese Yuan makes gold cheaper to Chinese consumers but at the same time hurts the Chinese economy. Our bet is that global central banks will tighten slowly and will be a mixed factor for gold.
Central Bank Gold Agreement
Central banks play a key role not only with regards to monetary policy's effect on gold but also with regard to purchases or sales of gold to diversify their currency holdings. It also cannot be denied that even though a gold standard no longer exists, central banks that hold large amounts of gold have currencies that appear a bit more attractive with regards to likely stability of that currency. The ECB started in 1998 with the objective of maintaining 15% of its reserves in gold for just such a purpose.
In 1998, gold spent the majority of its time below $300/oz. Part of the reason for the decline from its 1980 peak at $875 to below $300 in 18 years were the constant waves of selling by central banks and tremendous amounts of producer hedging. On Sep 26th 1999, the first Central Bank Gold Agreement was announced as an effort to stop the slide in gold prices by forcing central banks to ease up on their selling. The agreement was to last five years and limited its 15 signatories to collectively sell at most 400 tonnes/year.
Gold went from its $250 low in 1999 to around $415 when the agreement expired in Sep 2004. The agreement was renewed for another five years with CBGA2, and, it increased maximum gold sales to 500 tonnes/year over another five years. Signatories announced intended gold sales of only 1449 tonnes at the time of the agreement and haven't added much in the nearly two years since. In its first year from Sep '04 to Sep '05, signatories sold 497.2 tonnes. So far in its second year, they have sold 282.5 tonnes with few plans for additional sales this year. The table below shows that planned sales over the remaining three years are between 703-803 tonnes.
The pace of sales is slowing perhaps due to the agreement's success at stabilizing the gold market. However, the Bank of France and the ECB will likely continue to be gold sellers moving forward. The ECB started with the intention of having gold make up around 15% of its reserves. The rally in gold has caused it to make up around 27%. Several banks said they would not sell any gold during CBGA2 including Finland, Greece, Ireland, Italy, Luxemborg, and Spain. The Bundesbank (BBK) has been pressured to sell gold by the government, but has only sold small amounts for minting coins. If any year's quota is not met, any signatory can step up and fill the void.
Other central banks, however, may be in the market for gold purchases. Russia has said it intends to bring gold holdings up to around 10% of all of its $250B in reserves. That would bring its holdings to 1,234 tonnes, but it currently holds only 386 tonnes. Similarly, there has been tremendous pressure put on China to diversify its reserve holdings into commodities like gold, but it hasn't purchased gold since Dec 2002. It has been urged to bring holdings up toward 2,500 tonnes from its current 600 tonnes. China is also an unknown because of plans it announced in May to form a strategic commodity reserve.
Rising gold prices beg the question of why central banks even sell gold. Germany represents the classic answer, being the second largest holder of gold behind the U.S., owning 3,428 tonnes, while the U.S. owns 8,134 tonnes. Since gold doesn't earn interest and before 1999 only depreciated, governments have been encouraging their central banks to unload their massive holdings to help pay down government deficits. However, the Bundesbank has resisted those calls claiming that the gold holdings add to perceived currency stability and clarifying that the gold belongs to the central bank and not the government. Diminished central bank sales and prospects for reserve diversification are bullish factors going forward.
Technicals
Seasonal Tendency
The gold market followed its seasonal tendency well in the first three months of this year, before trade in April and May skyrocketed higher. The market has undergone a massive inflow of fund money which has propelled it to sharply higher levels. Looking at trade since the 2001 bottom, the market exhibits a tendency of trading sideways for the first seven months of the year, before bottoming on Aug 1st. This has been the case in each of the last five years and has produced an average profit of 13.8%. In the 16 years that preceded 2001, the trade had a 9-7 win-loss record. It's not our intention to cherry pick which years work from years that don't, but in 2001, something fundamentally changed in the gold market, and that change appears intact today.
Continuation Chart Is Bullish
The daily continuation chart in chart 6 shows the past year's trade and the extent of the correction that has been made. The past year's rally started in May '05 at $413 and moved up to $728 by May '06. The chart shows that the market retraced 55% of that rally during the May-Jun '06 selloff before forming a bottom. The bottom held above both the Dec 12th high at $538.50 and the 62% retracement of the '05-'06 uptrend at $535.00. A negative aspect of the chart is the trade around the rising channel pattern. Trade in mid-Apr rallied above the pattern's upper boundary and accelerated higher before peaking and reversing down below the channel pattern as support. Such slope- changes are typical of a market that is near exhaustion. The move was textbook in quality and indicates that the market will attempt to test the $728 high but will have trouble taking it out.
Bubble Comparison Chart
Rounding out the technical outlook is a comparison of the '05-'06 mini-bubble with other bubbles seen in the past. Markets typically exhibit a rather sharp decline early in the correction, but a bounce is made before a full correction is completed. Doubts as to whether the "party" is really over likely fuel the short-term rally. Gold is in a similar situation now. Trade from mid-Jun through early-Jul has rallied sharply as long-time bulls attempted to take advantage of the new lower prices. Chart 7 compares the current gold trade (thick black line) to the top in the Nasdaq made in 2000 (thin red line). Similar comparisons can be made with 1980 gold.
We call it a mini-bubble because it didn't exhibit all the characteristics of a bubble, which include talk of "new paradigms," $50 higher opening calls, mortgaging of homes to buy gold, etc. Since it was not a full-fledged bubble, it may not exhibit the same size correction. But the 2000 Nasdaq provides a compelling similarity.
Other Factors That Bear Watching
There are factors that also need to be highlighted when analyzing the gold market. Most are short-term in nature and don't get the full attention they deserve but likely had some impact on trader psychology.
In summary, we believe Q2 supply will be equal to or greater than supply in Q1 due to less de-hedging and a recovery in mine output. Q2 demand should be below Q1's due to higher prices, but demand may start to recover into Q3 as global equity markets recover. Investment flows may try to take advantage of sub-$600 prices. Indications that demand in dollar-terms grew 2% shows that the gold market averted a deeper correction in Q2. GFMS said in its survey that "hefty gains over the next year or two are possible" and "in the right circumstances, the 1980 high at $875 could even be taken out." MGR is in agreement with that statement but can't see it happening for a couple years yet. Global central banks are expected to continue to tighten but at a relatively slow pace. Central bank selling by CBGA countries should diminish while Russia and China could become large buyers. Finally technical factors will be supported by the seasonal and the extent of the downward retracement seen in May-Jun. Dogging the technicals will be comparisons to previous bubbles. These factors should cast a lightly positive influence on the gold market going forward.
Disclaimer: There is a risk of financial loss in futures and options trading. Futures trading is neither easy nor an easy way to make money. It takes hard work to have success. Please use sound money management when trading futures. Past performance is not necessarily indicative of future results. Nothing in this newsletter is intended to be a trading recommendation for you to buy or sell futures or options. All information has been obtained from sources believed to be reliable, but accuracy is not guaranteed. Readers are solely responsible for how they use the information in this newsletter.
Source: Moore Research Center, Inc.
| Date | Reports | Expiration & Notice Dates |
|---|---|---|
| 08/10 Thu |
7:30 AM CDT - Trade Balance(Jun)
7:30 AM CDT - USDA Weekly Export Sales 7:30 AM CDT - Initial Claims-Weekly 9:30 AM CDT - EIA Gas Storage 1:00 PM CDT - Treasury Budget(Jul) 3:30 PM CDT - Money Supply |
|
| 08/11 Fri |
7:30 AM CDT - Crop Production & WASDE 7:30 AM CDT - Supply & Demand 7:30 AM CDT - Export & Import Prices(Jul) 7:30 AM CDT - Retail Sales(Jul) 9:00 AM CDT - Business Inventories(Jun) 2:00 PM CDT - Dairy Products Prices |
LT: Aug CRB Index(NYBOT)
Aug CRB Index Options(NYBOT) |
| 08/14 Mon |
|
LT: Aug Soybeans(CBT)
Aug Soybean Meal(CBT) Aug Soybean Oil(CBT) Aug Lean Hogs(CME) Aug Lean Hog Options(CME) |
| 08/15 Tue |
7:30 AM CDT - PPI & Core PPI(Jul) 7:30 AM CDT - NY Empire State Index(Aug) 8:00 AM CDT - Net Foreign Purchases(Jun) |
LT: Aug GSCI(CME)
|
| 08/16 Wed |
7:30 AM CDT - CPI & Core CPI(Jul) 7:30 AM CDT - Housing Starts & Building Permits(Jul) 8:15 AM CDT - Capacity Util & Indus Prod(Jul) 9:30 AM CDT - API & DOE Energy Stats |
|
| 08/17 Thu |
7:30 AM CDT - USDA Weekly Export Sales
7:30 AM CDT - Initial Claims-Weekly 9:00 AM CDT - Leading Indicators(Jul) 9:30 AM CDT - EIA Gas Storage 11:00 AM CDT - Philadelphia Fed(Aug) 3:30 PM CDT - Money Supply |
LT: Sep Crude Oil Options(NYM)
|
* Please note that the information contained in this letter is intended for clients, prospective clients, and audiences who have a basic understanding, familiarity, and interest in the futures markets.
** The material contained in this letter is of opinion only and does not guarantee any profits. These are risky markets and only risk capital should be used. Past performances are not necessarily indicative of future results.
*** This is not a solicitation of any order to buy or sell, but a current market view provided by Cannon Trading Inc. Any statement of facts herein contained are derived from sources believed to be reliable, but are not guaranteed as to accuracy, nor they purport to be complete. No responsibility is assumed with respect to any such statement or with respect to any expression of opinion herein contained. Readers are urged to exercisetheir own judgment in trading!