Gold Struggles as AUD Rallies

Precious metal bulls have endured a difficult few weeks, with the price of gold falling from USD $1,266.20oz at the end of May 2017 to USD $1,230.30oz on Friday the 14th July. Silver has fared even worse, declining by almost 10%, with the metal ending last week trading at just USD $15.71oz.

Australian dollar investors have also seen the value of their investments decline, hit not only by the fall in the metals themselves, but also as a result of the incredible rally in the AUD, which is currently trading near USD $0.78.

Combined, this has led to a decline of nearly 10% in the price of AUD gold, which has fallen from over AUD $1,700oz in early June to just AUD $1,584oz today.

The chart for gold priced in AUD is included below, with the sharp sell off from early June seen clearly. Year to date, the yellow metal is now essentially flat in terms of performance.

Where to Next for Metals?
Whilst the last few weeks have disappointed bulls, the metals look like they may be close to finding a base (for now at least). From a seasonality perspective, we are most of the way through a typically weak period for gold, whilst some of the technical indicators like RSI and MACD that you can see in the chart above suggest a bounce is now overdue.

We’ve also seen a massive reduction in speculative interest in the precious metal sector, with our trading team’s update from the 10th July worth revisiting. In it, they noted that there had been;

• A continuation of the combination of significant long liquidation as well as short selling, contributing to a reduction in net non-commercial speculative long length of almost 4.2 million ozs in gold (Futures & Options combined). Futures and Options combined positioning now stands at +90,681 contracts vs. +214,101 contracts just four weeks ago.

• A continuation of significant short selling from the non-commercial speculative silver community and long liquidation, in line with general bearishness across the precious metals complex. A net change in total long length of just shy of 48 million ozs follows on from last week’s 55 million ozs reduction and the prior week’s 73 million oz exodus. Futures and Options combined positioning now stands at +25,564 contracts (127.82 million ozs) vs +65,310 contracts (326.55 million ozs) just four weeks ago.

That report can be viewed in its entirety here.

To visualise just how large the exodus out of net-long gold positions from short-term money managers has been in the past few weeks, consider the chart below, which comes this article titled; “These 3 charts show hedge funds losing faith in gold”.

As you can see, the net-long gold position is now its lowest in 17 months, which takes us back to the start of 2016, a starting point from which gold rallied significantly it must be said.

Other more positive signs for precious metals can be read in the latest set of economic data out of the United States, where inflation and retail sales figures were a huge disappointment. Hard data has been underwhelming the market for most of this year, with actual GDP forecasts declining, though sentiment surveys and the like still hold out hope for a pick up in US economic activity.

The disparity between the two, and how they’ve evolved over the past 2 years, can be seen in the chart below, which came courtesy of this ZeroHedge article from last Friday the 14th July.

A continuation of the disappointing run of hard data will eventually lead the Fed and the market to recalibrate their expectations for Fed policy and the pace of interest rate hikes, which could well be gold bullish.

Indeed one could argue we are already seeing this with Fed Chair Janet Yellen sounding decidedly more dovish in her recent policy discussions, noting that; “because the neutral rate is currently quite low by historical standards, the federal funds rate would not have to rise all that much further to get to a neutral policy stance.”

HSBC are positive on the outlook for the metal, noting that gold looks to be building a base above USD $1,200z, despite ongoing tightening in monetary policy. In saying that, given they have a 2019 forecast of just USD $1,330oz, they can hardly be characterised as being in the uber-bullish camp.

The uber-bull position is left to analysts at Sprott, who see the yellow metal reaching as high as USD $1,400oz this year, with the likely catalyst a potential equities market correction. You can read more about that view in this article here.

Striking a more cautious tone, well respected analyst Jordan Roy-Byrne remains of the view that gold and silver are in primary downtrends and therefore the bearish sentiment reading we currently see (which are a good thing for long-term buyers) could decline further before basing.

His latest update, which includes some great charts can be read here.

Our view remains largely unchanged. We are confident that the low in USD gold prices in this cycle has already been seen, and that on a relative basis, physical precious metals will outperform financial assets in the coming years.

This is true in all major currencies, but particularly for Australian dollar investors, who we think will benefit from the tailwind of a lower AUD in the coming years, even though the charts currently suggest it could push through to the low USD $0.80 in the short-term. If that is to eventuate, and it helps bring the spot AUD gold price toward the $1,550oz level, investors should treated it for the gift that it is.

Gold as a Diversifier and Source of Returns
Late last week, Forbes published an article featuring the views of World Gold Council chief market strategist and head of research John Reade, who was previously a managing partner at Paulson and Co.

In it, he discussed the fact that gold has acted as more than just a hedge over the past 10 or 20 years, with returns commensurate to equity markets over this time period.

Just as importantly, he focused on relative valuations and the growth potential for markets right now, stating that; “When I look at long-term valuations of the S&P 500, I think it is probably not the greatest place to be putting money into for the long term because at these sort of levels, your expected returns are going to be low over the next 10 years. Similarly, I see the same thing when I look at bond markets and yields.”

That aligns with the central thesis of our main research report from earlier this year, “Exter’s Pyramid and the End of Easy Money”, that highlighted why it will be so hard to grow wealth in conventional asset classes in the coming decade, and why gold should be part of any well diversified portfolio today.

The Forbes article can be read here.

Discussing gold specifically, the paper notes that; “Holding gold is the best way to keep capital out of the “system” in order to preserve purchasing power during credit crises, for there is no means for the authorities to redirect the purchasing power and liquidity of gold, save confiscation—the reason gold has so often been confiscated. We likely remain distant from that outcome. In a more innocent time, such as the 1930s, the general belief that the government was here to help led to a widespread acquiescence of state power. No one believes that anymore. People support the state only in proportion to their share in the spoils, and gold hoarding at present is likely too small a phenomenon to whip the public into enough of a frenzy to jettison the Fifth Amendment (even Roosevelt provided compensation at the then prevailing price).“

The paper also included the following chart, highlighting the performance of the S&P500, the Barron’s Gold Mining Index (BGMI) as well as a portfolio with a 65% weighting to the S&P500, with the remaining 35% invested in the BGMI.

The paper notes that despite the fact gold miners as a stand-alone asset have delivered exceptionally poor returns, they have helped investors massively outperform broader equity markets over time, provided investors engaged in regular rebalancing.

Source: Myrmikan Capital

The paper also points out that gold itself does a great job reducing overall portfolio volatility compared to a long only equities fund, whilst also adding to the returns investors will generate over the long-run.

The paper, which should be of interest to any precious metal or gold mining company bull, can be read in full here.

Crypto-Currency Crashes
Before finishing this update, we wanted to provide a brief update on the crypto space, which has been in the news again the past few trading days.

Given the astronomical price rises, and forecasts for even higher prices in the future, it was no surprise that crypto-currencies like Bitcoin and Ethereum have gained ever more investor attention in 2017.

Our view remains unchanged, in that we remain excited by Blockchain technology, we think crypto currencies can be a fantastic speculation, but one’s exposure should be limited to that which they can afford to lose.

That last point should be abundantly clear to those late to the crypto-currency investing party, with the last week particularly brutal to prices.

Ethereum in particular has been badly hit – with the price dropping from over $400 to under $200 in the last month, with much of the damage done in the last week.

Longer-term investors would note that there have still been astronomical price returns for those who have invested for longer than the last three months only, and they would be right, but this kind of volatility demonstrates why this sector should be approached with such caution.

As such, whilst we might personally be tempted to dabble in these investments with an incredibly small part of our personal portfolio, they are clearly not for everyone, and should not be confused with gold.

Until next time,
Jordan Eliseo

Disclaimer
This publication is for educational purposes only and should not be considered either general or personal advice. It does not consider any particular person’s investment objectives, financial situation or needs. Accordingly, no recommendation (expressed or implied) or other information contained in this report should be acted upon without the appropriateness of that information having regard to those factors. You should assess whether or not the information contained herein is appropriate to your individual financial circumstances and goals before making an investment decision, or seek the help the of a licensed financial adviser. Performance is historical, performance may vary, and past performance is not necessarily indicative of future performance. Any prices, quotes, or statistics included have been obtained from sources deemed to be reliable, but we do not guarantee their accuracy or completeness.