Time to say good-bye to gold?

It is a common wisdom that a bull market is over when the last bull has bought. One indication for a market reversal is according to an old market adage when a bull market does not longer rise on bullish news. This had been the case in the gold and other precious metals markets at the start of the week. The German economics minister and head of the junior coalition partner published an article in a Sunday paper where he talked about insolvency of Greece. As the German member of the ECB directorate resigned the Friday before and internal scenario analysis of the German finance minister had been leaked to the media the same day, the market got the impression that the German policy has changed and that the government want a Greek default instead. European bank shares got hammered and dragged the stock market indices lower. The German DAX index dropped below the 5,000 mark, a loss of more than 8% within two trading sessions. Both factors – the plunge of stock markets and the increased risk of Greece defaulting – are normally positive for gold but they could not push gold higher. Instead gold dropped to almost 1,800$/oz.

Tuesday was a reversal day for major European stock markets. Furthermore, the Fed and the major European central banks agreed on measures to provide banks with sufficient US dollar funds over the year-end, which pushed stock markets further up. The German DAX index closed 12.25% above the low of the week. This rise of stock markets did lead to a fall of gold to a low of 1,766$/oz but there was no plunge of gold or other precious metals.

On Friday, gold recovered after hitting the low of the week. Some market commentators attribute this recovery to US consumer expectations in the University of Michigan consumer sentiment index. However, the turnaround set in already during the European morning hours, far ahead of the release of the US consumer sentiment. From our point of view, this recovery is more related to market expectations and reactions on the appeal of US Treasury secretary Geithner at the conference of EU finance ministers. The European FinMins presented unanimity in rejecting the demands of Mr. Geithner. While one might not subscribe to all of his points made, the eurozone finance ministers did again fail to understand the main message. The eurozone has to demonstrate and convince financial markets that they are determined to take all measures necessary to solve the debt crisis. But as long as the eurozone finance ministers just react half-heartedly to new developments in the debt crisis instead of acting decisively, gold bulls could feel comfortably with their positions.

According to the latest CFTC report on the Commitment of Traders, the large speculators reduced their long positions in gold futures by 13,062 contracts and increased the short positions by 2,462 contracts in the week ending September 13. Thus, the net long position of the hedge funds and CTAs declined by 15,524 contracts to 168,847 contracts. This is the lowest reading after the net long position reached a peak at the start of turmoil in stock markets. Since August 2, the net long position dropped by 78,328 contracts or 31.7%. Also the gold holdings at the biggest ETF, the SPDR Gold Trust fell from the high in early August at 1,309.92 tons by 78.51 tons but recovered last week to 1,251.91 tons. Thus, while the debt crisis in the eurozone intensified and major stock markets declined, investors have reduced positions in gold.

Gold rose twice above the 1,900$/oz mark within the last few weeks. However, the flow of funds data shows that major investors have reduced their gold holdings. Also gold did not react to the major drivers as one would have supposed. This might be a warning signal. But it could also simply imply that no longer investment demand from Western countries is the main factor driving gold. Asian investors and the fear of inflation in the major economies of China and India might now be the dominating factor.