Mixed bag for precious metals

Last week, we recommended remaining cautious as the post US election rally was not supported by the major fundamentals. This week, gold and silver gave back a part of the gains made during the preceding week. Only the PGMs performed better. While platinum ended the week slightly in the plus, palladium posted a stronger gain. The reason for this outperformance was the surprising 2012 interim report from Johnson Matthey, which predict a swing from a supply surplus to a deficit. But also for the PGMs, the further short-term development will depend essentially on stock market movements.

During the week following the US election, large speculators increased again their long position in gold futures and reduced slightly the short position according to the recent CFTC report on the commitment of traders. Thus, the net long position of the non-commercials increased 11,418 to 171,594 contracts.  The net long position in silver held by large speculators increased by only less than 300 contracts to 34,410 contracts in the week ending November 13. We interpret this development as hedge funds have channeled money back into gold on the relief that Mr. Bernanke will remain chairman of the Fed and that quantitative easing will not come to an abrupt end.

However, the development of the past week underlines that quantitative easing is not a sufficient condition for a rally in precious metal markets; it is only a supporting factor. And it is also not a necessary condition. As the case of the PGMs has demonstrated, the factors driving demand and supply are moving the prices.

In our quantitative models, the US stock market is a highly significant factor for the price development of the four precious metals. However, the S&P 500 index serves as a high frequency proxy for economic activity, which is measured in monthly or even only quarterly intervals. Expectations about future economic activity have an impact not only on the investment demand for precious metals, but also for consumer or industrial demand. This has been underlined last week with the release of the gold demand and supply report of the World Gold Council, which showed a decline of global gold demand in Q3 this year. Also demand in China declined as the pace of economic activity had slowed. Thus, it should not come as a surprise that precious metals often trade in line with risky assets.

One factor cited for the fall of major stock markets last week was the preliminary Q3 GDP data in the eurozone. Former ECB chief economist Stark always pretended that austerity fiscal policy would lead to economic recovery. However, the multiplier effect of fiscal policy measures is not below unity as Mr. Stark but also IMF officials tried to make believe. Flawless quantitative research shows that the multiplier effect is not a constant but varies with economic conditions. This has also been the result of a recent IMF working paper. In a recession, fiscal austerity is not leading out of the recession but could trigger a vicious circle. Greece provides currently the best example for this inappropriate economic medicine prescribed by the troika of EU, ECB and IMF. As more and more countries were forced to implement a restrictive fiscal policy, it is no wonder that the eurozone entered into the second recession after 2009. But the decline of the eurozone GDP was slightly less than the consensus of economists had predicted.

Normally, one would expect that the impact of the eurozone GDP data would not be that strong on international stock markets. However, combined with the fear of a fiscal cliff possibly looming in the US, the sentiment was bearish. Many stock markets posted the second weekly loss in a row, which dragged also gold and silver lower. Thus, the developments at major stock markets remain the key for precious metals.

Last Friday, the first meeting between leaders of both parties in the Senate and the House took place in the White House. Both sides made slight moves and emphasized to work towards avoiding the fiscal cliff. This has lead to stabilization in the US stock market, with the major indices posting the first daily gain since the US election. We expect that a compromise to avoid the fiscal cliff will be reached, but it might be an 11^th hour compromise. Therefore, precious metals might remain on a bumpy road during the final few weeks of 2012.