Black Friday for precious metals

Until the middle of last week, it still looked like gold might manage to stay within the sideways trading range. However, on Friday, gold plunged by 87$/oz or by 5.6%. Thus, gold has retraced the entire advance from the low at July 1, 2011 at 1,478$/oz to the all time high at 1,920$/oz. With gold having fallen by around 23% from the high, the market is now regarded by many technical analysts as being in a bear market. The plunge of gold also dragged other precious metals lower.

In media reports, two factors were stated as being responsible for the black Friday in precious metals: economic woes and Cyprus.  Ahead of the meeting of European finance ministers on Friday, Cyprus stated that the financing needs under the EU/IMF bailout have risen to 23bn euro due to the deterioration of the economy, which will depress revenues. Cyprus is another case demonstrating that the remedy prescribed by the troika is not heeling the patient. Austerity is not improving the economic situation but only makes a recession worse. Austerity leads to even bigger holes in the budget.

Normally, this would not have caused such a strong negative price reaction in the gold market. However, there were also reports, that Cyprus would have to sell 0.4 bn euro worth of gold, which are most the country’s gold reserves. While this had not been confirmed officially, it had nevertheless an impact on gold. But the intraday chart shows that gold reacted at the start of trading in Europe and then moved sideways above the 1,540$/oz level. Also the London AM fixing at 1,548$/oz was only 7$ lower than the price of the morning fixing at the day before.

The second factor quoted was economic woes. Certainly, some economic figures came in lower than expected.  However, the University of Michigan consumer sentiment index is subject to considerable revisions, as the recent report demonstrated. Working day effects of the Easter holidays are hard to eliminate by the usual seasonal adjustment procedures. Thus, data for the months of March and April should always be taken with some caution. For example, also last year, the number of new jobs in March came in much lower than expected and triggered a rally in the US Treasury market. However, this figure had been revised up and also the annual benchmark revisions led to another upward revision.  

Thus, economic woes might be overdone and not justified. However, the crucial question is, do they really explain the plunge of precious metals prices. In various econometric models for the gold price, there are three fundamental factors, which play a significant role – the US stock market, crude oil and the US dollar index. Economic woes should be reflected in falling stock markets. However, the S&P 500 index posted another rise last week. Thus, it appears that economic woes don’t move the stock market. But it would be foolish to sell gold on concerns about the economic outlook and to invest the proceeds in the stock market. Crude oil and the US dollar index were only modestly lower in the week over week comparison and thus, both together do not support such a strong plunge of the gold price.

There were reports that the Merrill Lynch division of Bank of America sold 4 million ounces of gold at the opening on Comex. This fits more with the intraday price development of gold on Friday. The value of such a transaction is about 6bn USD, far more than the amount Cyprus is expected to raise by selling the major part of its gold reserves. Did I miss Bart Chilton stating that the CFTC would start investigating gold price manipulations by US banks at the Comex division of the CME?

After the drop of precious metals prices last Friday, the market is vulnerable for further losses as the sentiment turned bearish and investors might sell further precious metals. But on the other hand, the market is already oversold. Thus, also stabilization can not be ruled out. However, for the time being, the risk appears to be more biased to the downside.