Precious metals rise, but less than fundamentals sugges

This week, all four precious metals posted gains compared with the close of the Friday before. However, given the development of the major fundamental drivers, the performance was a bit disappointing.  The only exception was palladium, which rose 1.75%. Gold came in second with an increase of 1.2% over the week. However, after rising again above the psychological resistance of 1,300$/oz, a stronger rebound had to be expected against the backdrop of the fundamentals. Silver and platinum did not even manage to increase by 0.5%.

Not only the fundamentals, but also geo-political factors would have argued for a stronger increase of gold as the metal is usually regarded as a safe haven. Russians are a strong part of the population in the eastern parts of the Ukraine. The occupation of government buildings in some cities in the eastern Ukraine increased the tensions instead of deescalating it. NATO warns that Russian forces might invade the Ukraine and US President Obama already announced there would be further sanctions against Russia. In such a situation, there is usually a stronger demand for safe haven assets.

Some members of the FOMC feared, according to the minutes of the recent meeting, that financial markets might not understand the dot charts with the forecasts for the Fed Funds target rate. Obviously, they were right as the reactions after the FOMC meeting, Mrs. Yellen’s speech on March 31, and now after the release of the minutes showed. The messages is again that the first rate hike has to be expected only as early as mid-2015. We have pointed out several times that the FOMC has not changed its course. Even under the chairmanship of Mr. Bernanke, the Fed always indicated during 2013 that until mid-2015 the Fed Funds target rate would remain at the exceptional low level of less that 0.25%.

After the release of the FOMC minutes, the US stock market rallied. However, this rally was very short lived. Already the next day, the market gave the gains back. Profit-taking and the earnings season had a stronger impact. Especially technology stocks suffered most. But also the broader S&P 500 index lost 2.6% in the week over week comparison.

Over the recent couple of months, there was a negative correlation between the US stock market and gold. Given the decline of the US stock market, one would have expected a stronger flow into gold. However, investors have reduced their exposure to gold. The large speculators have reduced their net-long position in gold futures from 100,145 to 88,599 contracts in the week ending April 8, according to the recent CFTC report on the “Commitment of Traders”. Compared to the high, the non-commercials have reduced their net-long position by more than one third. Also the holdings of the biggest gold ETF, the SPDR Gold Trust, fell by almost 5 tons during last week.

But not only should the stock market have contributed to a stronger flow into gold. Also other fundamentals were positive for gold. The US dollar rebounded as markets have now understood that the first rate hike by the Fed will not take place earlier as some economists and market strategists suggested. The US dollar index fell by almost one full point to 79.45 and the euro rose to 1.3905, a gain of 2ct compared to the close of the Friday before. The head of the Deutsche Bundesbank, Mr. Weidmann, played down the risk of deflation in the Eurozone earlier this past week. However, one should not make the mistake to interpret this statement as an indication that the ECB would not embark on QE. A central bank cannot warn of deflation risks for psychological reasons. Such a warning could just increase the risk of deflation, which is clearly unwelcome as the experience of Japan demonstrates. However, as the Eurozone is just a currency union of independent states, implementing QE is far more complicated than it had been for the Fed or the Bank of England. Thus, we still expect that the ECB staff is working on the technical details of QE. From our point of view, the most likely scenario is still that the ECB will vote for QE before the summer recess. This should have a weakening impact on the euro against major currencies, which would be negative for gold and other precious metals.

Also the US Treasury market reacted positively on the FOMC minutes. The yield on the 10yr US T-Note fell by 11bp to 2.62%. This reduction of opportunity costs of holding precious metals should have a positive impact on the demand for all four metals. However, the crucial question is how far the yields on the 10yr benchmark Treasury note could fall. As long as the expansion of the US economy keeps on track, we regard US T-Notes at a yield below 2.5% as expensive. Thus, the most likely scenario remains that the US bond market will not provide much more support for gold. In the medium-term, rising yields are likely, which would be negative for gold.

Another fundamental driver of gold is the price of crude oil, which rose by 2.6$/bbl to 103.74$/bbl for the front-month WTI future at Nymex. Brent increased by only 0.6$/bbl for the front month future. However, also for this factor, the medium-term outlook remains not favorable for gold and other precious metals. In the short-run, the re-opening of ports in eastern parts of Libya remains a crucial factor. OPEC released its monthly report recently and also has reduced the forecast for crude oil demand. Thus, the risk for crude oil appears currently to be more on the downside.

Despite all fundamental drivers were positive, gold rose just 1.2% over the week. A stronger reaction had to be expected. Furthermore, it seems that major investors have reduced their exposure in gold by selling into the rallies. The outlook for the fundamental drivers of precious metals over the medium-term horizon remains negative for precious metals. At best they remain neutral but will not provide much support for a further rally. Only the supply situation for the PGMs remains supportive and should lead to an outperformance, especially of palladium. But for gold and silver, the risks are more biased to the downside in the medium-term. But this does not rule out that the markets edge up further in the short-run.