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Cracks in the gold price?

Cracks in the gold price?
By: Barry Sergeant
Posted: '07-APR-05 12:26' GMT © Mineweb 1997-2004

JOHANNESBURG (Mineweb.com) -- Gold bears may well be among the most reviled of all investors, but they might be about to enjoy a basking good time. The extended rally in gold prices, to recent levels near $450 an ounce, from under $300 early in 2002, has been underpinned by persistent dollar weakness. Neither trend will continue forever.

Gold now faces two tough challenges in the form of growing backing for a stronger dollar, and a dangerously high number of speculators who remain long (bullish) on gold.

For at least one well-known gold bull, Vancouver’s Martin Murenbeeld, there is sufficient “official” support for the dollar (mainly from Asia) for him to have recently trimmed his gold price forecasts. As Asia increases its exports to the US (on robust US growth and a weak dollar), rising dollar receipts find a natural home reinvested in dollar assets.

While the US stands as the backbone of global spending, the world continues to face an acute excess supply of savings; combined, Japan, China, Taiwan and South Korea hold nearly $2 trillion in foreign reserves. Asian reinvestment of dollars into dollar assets maintains a precarious “equilibrium” value for the dollar.

Other currencies, and currency proxies such as gold, eat crumbs falling from the table of US-Asian trade. Yet the relationship between the dollar gold price and the dollar itself is now all but carved in stone, given that for the past decade at least, one has displayed an inverse correlation with the other to a degree exceeding 90%.

When one rises, the other will fall. Analysis of dollar-index statistics (based on weighted trade data) compiled by the Federal Reserve, the US central bank, confirm that gold’s extended bull market has all but mirrored the dollar’s extended bear market from early 2002.

Depressing as it may be for gold bulls, this year has offered yet further clear evidence of the intimate links between the dollar prices of gold, and other metals and commodities and the value of the dollar – and also, of course, global interest rates. In a perfect world, long-term dollar prices for metals and commodities would be dominated by changes in supply and demand. But the world remains far from perfect.

Gold bullion fell to a seven-week low of $422 an ounce on April 4, its lowest level since February 16. At its more-recent levels around $425, gold has lost over 5% from its 2005 high of $448, set on March 11. Consistent with its behaviour of the past decade and more, gold’s see-sawing has inversely reflected the dollar’s two bounces of 2005.

Layered around the challenge of a potential extended rally in the dollar stand the speculators, with hedge funds widely thought to be behind the radical climb in dollar commodity and metal prices in 2005, at least to mid-March. The Reuters-CRB Index of 17 commodities reached a 24-year high on March 16, 2005, at 323 points. At that high point, the index appeared to be heavily overbought, having gained 12% from the opening trade of 2005.

However, as flighty as hedge funds can be, their population in the gold market appears to be mostly of the penguin species. As Montreal-based Bank Credit Analyst points out, a liquidation of speculators’ long positions in gold could add to selling pressure on the metal in the near term.

The dollar’s recent strength has itself been intimately linked with more hawkish Federal Reserve commentary. On March 22, the US central bank hinted that it may accelerate its programme of tightening interest rates, in order to pre-empt possible inflationary fears linked to record dollar crude oil prices.

The core US interest rate of 2.75% was at historical lows of just 1% in mid-2004, and is widely expected to finish 2005 around 3.75%. However, the Federal Reserve’s hints on March 22 were enough to trigger a global switch into dollar assets, pushing the greenback to two-month highs to the euro and five-month highs to the yen.

Investors took flight from global emerging markets (GEMs), and also fled from metal and commodity markets. In the current environment, BCA Research finds it surprising that speculators maintain “very long gold positions.” These are seen as vulnerable if the dollar remains firm in the near term “as we expect.” The bottom line here is that gold prices appear vulnerable to further correction.


LINK: http://www.mineweb.net/sections/gold_silver/430856.htm