News Column

Gold's current shine unlikely to last

February 23, 2014

Gaurav Ghose Financial Features Editor

Dubai: Gold investors, better temper your expectations of any continuing surge.

Since the start of the year, gold price unexpectedly shot up. On the 14th of this month, spot gold price crossed the $1,300 (Dh4,771) an ounce mark, and last Tuesday, it touched $1,332.10, its strongest since October 31. Since then it has eased a bit and closed the week on Friday at $1,326.10.

This latest run the precious metal is up 10 per cent this year is unlikely to last long. Investment managers are not buying gold for the longer term at the current levels though some may be trading to take advantage of the short sharp movements within the price band of $1,200 and $1,400 an ounce. But playing the market volatility is better left to the experienced traders.

Gold is seen as a safe haven investment against any uncertainty and also, a hedge against inflation.

Expectations of a rising inflation in the United States are a bit misplaced with growth still tame. Uncertainty in the face of soft US and Chinese economic data and US tapering though the Fed Minutes on Wednesday said that they are not going to withdraw stimulus earlier this month negatively impacted emerging markets. These saw a steep sell-off and has led to a drop in the developed markets.

We saw the US S&P500 declining in the last two weeks in the aftermath of the slide in emerging markets.

James Steel, the New York-based chief commodities analyst at HSBC, added that the run of gold was due to the support by a strong euro, and emerging market concerns.

"Also, the physical demand in the emerging market remains quite good," he said. "At least we have a seen sort of stabilisation in the ETFs [exchange traded funds] liquidation. That was a big, big issue last year."

The US Federal Reserve's tapering or the gradual winding down of the stimulus by reducing $10 billion in bond buying in the coming months depends on the country's economic growth, seen through various indicators, including US non farm employment report and retail, manufacturing and consumer confidence data.

As weak US manufacturing data came in on the back of weak retail data, doubts were cast on the pace of the US tapering, with speculation suggesting there could be a pause in the monetary tightening policy. That led to gains in the holdings in exchange traded funds (ETFs).

Some analysts are cautious for the longer term and see a lower price at the year-end. In fact one of the investment managers Gulf News spoke to does not have gold in the portfolios in the form of ETFs because it distorts the market.

He added that some of his clients do own some physical gold, but not for investment reasons.

The World Gold Council reported last Tuesday that the net gold demand slipped 15 per cent last year because of big outflows in physically backed ETFs even as consumer demand for the precious metal in the form of gold jewellery, coins and bars rose to record highs.

The problem with that view of seeing gold as a hedge against uncertainty is that chances of a tailrisk event has decreased significantly, says London-based Cesar Perez, the chief investment strategist for Europe, Middle East and Africa at JP Morgan Private Bank.

Currently, they do not have gold in their portfolios. Instead, he is playing the cyclicals by being long equities and specifically being long cyclical companies.

"We don't think that tailrisk event is going to happen because our view is growth will accelerate through the year," Perez told Gulf News during a phone interview on Tuesday. "That the United States is one step ahead in the deleveraging process structurally at the moment and real rates are going higher. That's an environment where gold doesn't do very well."

What's been happening in the last few weeks, according to the Emirates NBD's chief investment officer is since the last tapering in January, which was followed by weak US economic data, there is a lot of speculation in the market that the Fed will actually pause its monetary tightening at the next meeting in mid-March.

"The moment it pauses its tapering in other words, starts printing earlier amounts of money that it promised to do, that then is inflationary again," said Arjuna Mahendran on Tuesday. "The market has taken such [speculation] as a signal that inflation expectations will start rising and that is why gold prices have started picking up again."

Even if the speculation turns out true, Mahendran reckons that it will be a short-term episode.

For the rest of the year, he expects alternating cycles of risk on and risk off. If the Fed stops tapering, then it will be risk on, and that potentially could happen from about March until May. If things start revving up and jobs start being created, then Fed will come back and announce the start of tapering again.

"So, you will have another risk off, similar to what we saw in February so far, which is the US S&P500 giving up about five per cent to 10 per cent and Nikkei falling in Japan and such like and the emerging markets, particularly the oil importing countries will see their currencies and their equity markets, seeing a bit of a correction. In that risk-off period, gold prices will rise because basically gold and US 10-year government bonds are a hedge against a slowdown in the economy," he said.

"Whereas when you have risk on when jobs are being created, corporate profits are rising, equities and high yield bonds start running, gold and 10- year bonds take a pause. Such alternating cycles probably will be playing out this year. So, the recent run up in gold prices is not permanent."

In fact a Barclays report issued last month before the Fed's FOMC meeting, which announced the tapering of $10 billion that the London bank was expecting, said they were expecting a downside to gold in the backdrop of key macro correlations.

"Given our base case scenario of a stronger dollar, modest growth, tame inflation, and fewer tail risks set against the backdrop of changing gold correlations, we believe that the key relationships to track this year will be the US dollar, US 10-year Treasuries, and macro data releases," said the Barclays note on commodities. "Altogether, these drivers suggest further potential downside risk for gold, in our view."

Further it added: "The downside risks to gold have continued to build as tail risks have subsided, providing fewer motives for gold to attract a safe-haven bid. Key support will be dictated by whether the physical market in China and India can provide a solid cushion, but any volatility will likely be driven by investor appetite."

HSBC, too, believes tapering is likely to continue. While US tapering is going to be a factor, but Steel thinks the market has already adjusted tapering.

"Our economists at HSBC [believe] things would have to change the bar for any change to policies that the Fed has already announced would be quite high," he said. "Just a little bit of weakness won't change their mind."

According to Perez, gold will probably trade sideways this year and the JP Morgan Private Bank's target for the end of the end of the year is a bit lower than what it is today.

"We see it below $1300," he said.

Steel sees the bullion market trading around the $1300 level with a little margin either way. HSBC's published average for this year is similar to JP Morgan Private bank's, which is a little below $1,300.

While he doesn't see it by any means collapsing, but he believes further upside will be increasingly difficult from $1,300 levels.

"I think the [gold] market on any emerging market bubble or any further euro strength and the persistent Chinese demand is likely to repeatedly move to the upside. I think it might be volatile but I think the market still looks encouraging in the near short term [the coming two months] may go up $20-$30 higher.

"[To predict] the range itself would be tough we don't actually give a prediction on where it will end of the year," he said.

Mahendran predicts gold price will be between $1,250 and $1,300 by year-end.

"I reckon we won't see much of an upside," he said.

Barclays' note forecasts $1,220 an ounce for the first quarter and put a figure of $1,205 an ounce for the entire year.

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Source: Gulf News (United Arab Emirates)

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