Volatility in the gold price in recent days may have been caused by a number of factors, but analysis of the reasons for its rise in the first place point to a return to stabilisation in the market.
Stephen Cohen, head of iShares EMEA Investment Strategy & Insight notes that there have been substantial withdrawals from gold exchange traded product so far in 2013 – some $12.8bn worth. In April alone investors withdrew some $3.6bn from gold ETPs.
“However, considering the magnitude of the decline of the gold price since Friday 11th April, there hasn’t been a commensurate acceleration in ETP outflows,” he added.
Nitesh Shah, research analyst at ETF Securities said the latest sharp falls in the price of gold came after a downward trend seen since October 2012, as expectations of global growth have recovered, in turn raising expectations that interest rates could start to rise.
“Normally this alone wouldn’t be enough to knock back the gold price, as during most risk-on moves the US dollar weakens which often helps support the gold price. However, because of the dire macro situation in Europe and aggressive quantitative easing by the Bank of Japan, during this risk-on move the US dollar has actually strengthened. This has added further impetus to the downward move in the gold price.”
Shah warns that the expectations of US interest rates rising and the dollar strengthening are just temporary in nature. Because of the ongoing debt burdens in developed markets and demographic change, interest rates will instead remain low in order to support growth. And while expectations of further quantitative easing may “ebb and flow…until the countries backing the world’s major reserve currencies put in place credible policies to control their growing debt burdens, the public will look to gold as one of the few hard currency hedges against the risk these countries continue to try to reduce their real debt burdens through the debasement of the purchasing power of their currencies. Gold will remain in a bull market until these debt issues are resolved or a credible and liquid alternative to the current fiat reserve currencies emerges.
Although there are arguments for gold to remain in favour, it is also a fact that the price fell sharply over a period of just a few days.
Shah blames a cocktail of speculators looking to take advantage of poor news around fundamentals coupled with technical break points in the market. Key factors she identifies include:
- The Fed FOMC minutes released on 10th April which showed some members favour an earlier exit from the quantitative easing (QE) than previously assumed.
- Reports that Cyprus was readying the sale of its excess gold reserves to help fund its government’s debt payments led to fears that the gold supply will increase. While Cyprus’ gold stock remains too small to have a material impact on gold prices, investors fear that other troubled European states could follow suit.
- Arguably the most important catalyst was that a number of gold price technical support levels were breached (with some saying they were strategically pushed through by well-timed large hedge fund selling), triggering margin calls, momentum and model-based investor selling. This then created a cascading and self-fulfilling downward spiral in the gold price.
The role of Cyprus is played down by Andy Seaman, partner and fund manager at Stratton Street.
He aid that the country only had some 14 tonnes of gold, or about $650m before the price fall of the past week. More importantly, it would actually be quite hard to push through any sale of gold owned by the country’s central bank because of the impact of international agreements covering such activities.
“The central bank claims independence and says it would be its decision if it were to sell reserves, not the government’s, although in times such as these legislation could perhaps overcome such difficulties, although this would be central bank funding of governments which is illegal in EU law.”
“Cyprus is also a signatory to the Central Bank Gold Agreement (CBGA3), which limits total sales by EU Central Banks (and the ECB) over each five year period of the agreement, in order to create an orderly market. The current limit is 400 tonnes per annum, although in fact since 2009 European governments have generally lost interest in selling gold, perhaps after then UK chancellor Gordon Brown’s spectacular demonstration of how to lose money doing so, when the UK sold 400 tonnes over two years.”
Thus, even if Europe’s debtor nations such as Portugal, Greece or Italy were to consider a sale of their gold, then it is more likely that the ECB would take it “in exchange for some of the money the central banks owe to the ECB,” Seaman said.
“It is not really in the interest of Germany, the second largest gold holder, to flood the market with gold,” he added.
Other evidence of support
Looking at other events in the market suggest that there are a number of investors confortable with the current outlook for gold.
For example, Royal Skandia, part of the Old Mutual Group, has just decided to add the BMG Bullion and BMG Gold Bullion funds to its unit linked range for clients.
Canada based BMG is an Associate Member of the London Bullion Market Association and has a custody deal with Bank of Nova Scotia to store the physical bullion associated with its funds in the bank’s LBMA member vault in Toronto.
Hower, more interesting may be the fact BMG has stated it sees gold hitting $10,000 in future. The statement has been explained in a series of videos – including one already featured on InvestmentEurope:http://www.investmenteurope.net/investment-europe/discussion/2260652/bmg-group-sees-gold-at-usd10-000