Commodities | Oct 08 2014
-Physical demand improving
-But too weak to offset US factors
-Global investment demand falling
-Sentiment to remain volatile
By Eva Brocklehurst
Gold prices declined through September, at the mercy of US dollar strength amid anticipation of higher US interest rates next year. Despite further declines being likely in the near term, ANZ analysts believe a nadir for the gold price is in sight. A slight pick-up in Chinese physical demand was witnessed just prior to Golden Week holidays. This may not be enough to turn the price around but should the price continue to descend towards ANZ's year-end target of US$1180/oz, an increase in purchasing interest for physical gold is likely. The analysts emphasise that the bearish fundamentals for gold are unlikely to dissipate and speculation surrounding the timing of the first increase in the US Fed funds rate will provide volatility well into 2015.
The analysts also observe, as predicted, speculative positioning on Comex has fallen significantly over the past month and liquidations appear to have run their course. Further near-term declines in the price are likely but the analysts observe positioning is now close to that of December 2013, when a spike in the gold price eventuated, and downside looks limited.
Physical demand should provide some offset to a higher US dollar next year but the question remains, to what extent? Higher demand out of China is encouraging, although the analysts are of the view that onshore stocks need to be used up and this will mean demand appears unresponsive at first to falls in the price. As evidence, the analysts highlight a failure of premiums to rally significantly, despite the sharp decline in the price. Their medium-term gold price forecasts have been lowered by an average of 2.5% out to mid 2016, to reflect the negative impact of US dollar strength. The other locale of significant physical demand, India, is not expected to show improvement until the wedding season picks up from November. The analysts observe the relaxation of India's import restrictions in June had the desired effect of increasing gold supply.
From a country perspective, global investment demand for gold has fallen in both developing and developed economies and CBA analysts can find no reason for this trend to reverse. They observe Gold futures pricing is at the lowest level since August 2010, prompted by signs of a stronger US economy and speculation regarding higher US interest rates. This became particularly acute after the US unemployment rate recently broke below the 6% level. Despite cautious rhetoric from the US Fed on the subject, the analysts observe rising US interest rates are being factored into the gold price.
What about the tensions in Syria, Iraq, Libya and Ukraine? Safe haven demand for gold is taken for granted but has been observed as only a temporary driver of the yellow metal's price. Hence, while the CBA analysts are comfortable about the function of gold when market volatility increases, when risks escalate more substantially the gold price falls, as investors move to other first rate safe havens such as the US dollar and US Treasuries.
The analysts further observe that the fall in the gold price since late 2012 has not coincided with a significant change in market volatility, but does reflect the movement of the US 10-year bond yield. This trend is likely to continue, particularly as the US economy shows ongoing momentum. This should pressure the gold price lower until the end of 2015, in the analysts view. So, what about the gold futures trajectory? The analysts suspect gold futures may be pricing in a lift in US interest rates prematurely, as the Fed has indicated it only expects a modest change in Fed Funds rates by the end of 2015. Nevertheless, they find it difficult to envisage any sustainable support for the gold price in the near term while global investment demand is falling.
Morgan Stanley continues to expect a stronger US dollar, rising real US interest rates and bond yields, and lack of inflationary pressure should generate considerable headwinds for the gold price. That said, the broker is not overly bearish and suspects continued geopolitical instability and the broadening of views about the US interest rate tightening cycle will mean sentiment remains volatile. The gold price may be trending lower but these background factors are preventing a more substantial fall. The benefit to physical demand from consumption growth in both India and China should provide a longer term positive for the price, in Morgan Stanley's view.
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