Gold Soft as Trade Tensions Escalate!

It’s been a difficult two weeks for precious metal bulls, with gold failing to hold support at the all important USD $1,300oz level late last week, before plunging to USD $1,275oz on June 15th, which you can see on the chart below.

The plunge, which took place about a day and a half after the Federal Reserve had gone ahead with a fully anticipated rate hike, erased any 2018 gains precious metal investors had been sitting on for the year, with both gold and silver now down in USD terms year to date.
 

Over just a few trading hours, some $30bn of gold sales were processed, a huge uptick in volume that drove the fall seen last Friday.

The decline has continued over the past few trading days, with gold now trading at USD $1,270oz, whilst silver is at USD $16.45oz, having dropped nearly USD $1 at one point over the last week.

Softness in precious metal prices has unsurprisingly sparked an air of caution amongst gold traders and analysts, with a Bloomberg survey of 16 forecasters evenly split between bulls (5), bears (5) and those that are neutral (6).

From our perspective, whilst the sharp sell off last Friday was unwelcome, it’s still too early to say definitively that this as any more than a correction within a broader uptrend.

As per the chart below, which my colleague @JohnFeeney10 tweeted yesterday, which shows the USD gold price from 2015 to June 2018, gold still looks healthy enough, with a series of higher lows evident since the 2015 cyclical bear market bottom.
 

Make no mistake, the last few months choppy trading, and gold’s persistent inability to break above USD $1,360oz (despite 3 or more attempts), are negatives, but we expect meaningful support to come into play if gold approaches USD $1,240oz.

The key in the short-term is the USD, with the greenback ‘on-fire’ over the past few months, as you can see on the chart below.
 

That is a substantial move higher in just 3 months, and explains nearly all of the USD gold price weakness we’ve seen in the same time period.

The reasons for that USD strength are multifaceted, with the elevated tensions around trade wars between the United States and China a definite factor. Trump has of course stated he’ll be looking to hit USD $50bn of Chinese imports with a 25% tariff, which got a swift tit for tat reply from Beijing

The other factor behind the USD rally, and subsequent gold weakness is the Euro, which has been clobbered against the USD for most of this year.

Whilst the ECB has now stated that it plans to end its QE program by the end of this year, it has also suggested that they plan to keep rates pegged at just 0.25% for another year. That was a catalyst for Euro weakness, and a further rally in the USD. For as long as that continues, gold will struggle, though in AUD terms, and indeed priced in many other currencies, the outlook is substantially healthier.

It’s also worth pointing out that whilst all the short-term chatter regarding trade wars is USD positive, in the long-run it will be even better for gold as it portends a period of slower growth, and higher inflation, all other things being equal.

This view was recently shared by the team at Capital Economics, who in a research note stated that; “rising trade tensions would benefit the price of gold”, and that gold should also benefit from the rising inflationary pressure that is building in the United States.

The idea that a trade war will support gold in time will gain more traction should volatility build in equity markets too. At the time of writing, the Dow has fallen for 8 straight sessions, and is approaching important resistance. Should it break through that, then ‘safe haven’ buying of gold will likely follow.

There are other supportive factors for the market too, with ETF holdings broadly stable despite last week’s sell off, whilst central bank gold acquisitions continue, with Russia again adding to its reserves!

Bottom line is that whilst the recent sell off was unwelcome for precious metal bulls, the outlook is still broadly positive, we are quite close to key support levels, and coming toward the end of a seasonally weak period for the yellow metal, with Q3 returns historically amongst the strongest.

As such, gradual accumulation of bullion is still the most sensible approach for medium to long-term investors.

Australia: Bye Bye Interest Rate Hikes

Regular readers of our ABC Bullion market updates will know that we are firm in our view that the RBA will need to cut interest rates again in the not too distant future.

For the vast majority of this year, our view (which we’ve held for a long time, witness this podcast with Business Insider from November 2017) has been in the distinct minority, with most of the banks and more mainstream economic commentators firm in their belief that the next move by the RBA will be a hike.

Even the RBA itself has been at pains to say they expect their next move will be up, rather than down, though, importantly (given the laser like focus markets put on every written word in a central bank monetary policy statement), the RBA June statement removed a key reference regarding the outlook for rates.

Prior to this month, the RBA had gone on record saying that: “it was more likely that the next move in the cash rate would be up, rather than down”, though this line has now been removed, a sure sign of their increased nervousness regarding the domestic economic outlook.

The banks jitters is being reflected across the marketplace, with the banks now lining up to either push back their expectations for when a rate hike will take place, or abandon calls for rate hikes altogether. Macquarie Bank joined the queue this week, pushing out their expectations for a rate hike to 2020 now.

The following chart, which comes from Westpac Banks, highlights clearly how market pricing for interest rates has changed this year, with a significant downshift in expectations.

In January of this year, markets were expecting almost two full rate hikes by May 2019 (less than a year from now). The current set up suggest we’ll only see one rate hike by November of 2019.

This repricing of expectations regarding interest rates is one of the factors that has helped pushed the Australian dollar lower in the last few weeks, and we expect it to continue, as our view is that market analysts and forecasters, whilst more sober than they were at the start of the year, are still too optimistic.
 

We expect the RBA will end up cutting rates within the next 12 months. Should that occur against a backdrop of persistently slow growth, stagnant wages, a continued weakness in house prices on the East Coast and a decline in iron ore prices, then an AUD in the $0.60-$0.70 range versus the USD is entirely within reach.

That will help support the price of precious metals for local investors.

Tails, You Win! Read of the Week!

For those of you who’ve never come across his work, Morgan Housel, who you can find @morganhousel on twitter, is well worth a follow, as his blogs, articles, videos, etc. on finance and investing are typically insightful and thought provoking.

This week, he wrote a great piece, I wanted to share, titled “Tails, You Win”, which you access here.

The blog starts with a really interesting reference to Walt Disney, how his first studio went bankrupt, and why it wasn’t until Snow White and the Seven Dwarfs (which grossed $8 million in the first six months of 1938) came along that the Disney we all know of today really “made it”.

The blog also includes some incredible statistics on the returns generated in equity markets, and how a small number of companies can generate such a large percentage of overall market gains.

As an example, just 22 of the 500 companies in the S&P500 were responsible for 50% of the doubling in the “market” over the last 5 years, whilst according to a JPM study; between 1980 and 2014: “forty percent of all Russell 3000 stock components lost at least 70% of their value and never recovered. Effectively all of the index’s overall returns came from 7% of components.”
I won’t include any other quotes from the article because you really should read it. The comments on Apple and Amazon alone are worth it, as it forces you to consider which products of theirs are responsible for driving their extreme growth, and how much of an outlier event they are in the context of their overall operations and product ranges.

The article is relevant to ABC Bullion market update readers, as I believe there is a lesson in there that reinforces the value of owning precious metals as part of your portfolio.

And the reason for that is that, amongst all the choices you have as an investor, gold is the only “constant”, and the safest of all places to store and protect wealth. It has market cycles and years where you won’t make money on it, but in the fullness of time, you’ll be safe, as gold won’t ever be disrupted, or lose purchasing power to inflation, etc.

Stocks are a much better way of building wealth, but when it comes to investing in companies, as the article essentially points out, even ‘diversified’ stock market investors will end up putting money into a lot of losers. Indeed the fact that so many companies end up being duds that lose money is exactly why the view that stocks “for the long run” at the exclusion of all else is overly simplistic, as we explained in great detail in this report here, which looked at some of Warren Buffet's recent comments.

Finding the balance between the two is the key to successful investing.

Until next time.
Jordan Eliseo

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