China and the Eurozone – repeating mistakes weigh on metals

New highs during the course of last week, but then all metals plunged heavily last Friday. Precious and base metals both posted gains while also the US dollar index rebounded. This combination is not common as a stronger US dollar normally leads to profit taking by financial investors. However, the G20 summit in South Korea might have induced them to hold positions. But after the end of the meeting, commodity markets in general came under pressure, while the reasons for the sell-off were not the results of the G20 summit. Again developments in China and the eurozone were the driving factors.

It is not a shame to make a mistake, but it is a shame to make the same mistake twice. While China is expected to repeat a mistake, the German government and in particular the Chancellor Angela Merkel and her staff already made the same stupid mistakes they did in spring during the Greek debt crisis. Mrs. Merkel insisted that private investors would also have to make some sacrifices in the case the government debt of a eurozone member country would have to be restructured. She won approval at the recent EU summit, which took place at the end of October. Investors holding Irish government bonds feared a haircut and dumped the holdings. The fear that Ireland might fail on its government debt did not only lead to rising spreads of Bunds and soaring CDS rates, but also sent the euro again lower versus the US dollar. However, this was not a burden for gold as investors bought the metal as a safe haven. The German government made the situation even worse by spreading rumors about getting prepared for Ireland seeking funds from the EU stabilization funds and the IMF. The warnings Mr. Trichet made at the EU summit came true. Last Friday, the EU declared at the end of the G20 summit, that private investors would not have to make any depreciation on Irish government bonds. The euro rebounded against the US dollar, but gold could not profit from this move as investors also left the safe haven. Thus, gold plunged despite a firmer euro.

China released a series of economic data in the second half of the week. Initially, metals markets reacted positive on the data. LME 3mth Copper hit a new record high at 8966$/t, thus exceeding slightly the high made on July 2, 2008. The markets were also not much concerned about the rise of headline CPI inflation from 3.6% to 4.4% in October. However, on Friday, the markets were concerned that the central bank, the People’s Bank of China, might hike interest rates again. The major driver of the accelerated inflation rate was again the food component. We argued already earlier that one can not fight the weather with interest rates. A better way to reduce the impact of rising international agricultural commodity prices would be to allow a stronger appreciation of the yuan against the US dollar. However, Chinese politicians will not walk this way as their rhetoric ahead of the G20 meeting showed. It has to be feared that the PBoC will hike rates again, which would slow the economic growth. Nevertheless, in the case of copper, we still expect that the market would be in a deficit next year, in particular as launch of copper ETFs is looming, which would reduce the amount of available copper for consumption. Thus, any correction of copper is likely to be a good opportunity to for consumers to hedge against a further rise of copper prices.