By Renisha Chainani
Gold keeps finding new
catalysts to rise and hit record highs every time. On 2nd August,
despite news reports showing Republicans and Democrats are on the verge
of resolving the debt-ceiling issue, it rose to view records of $1660.
Many of us anticipated a temporary correction lower in Gold
when the deficit-ceiling impasse ended, because Gold had ran up roughly
10% from 1st July to entire month, a period when the debt-ceiling
gridlock and potential for a default increasingly dominated headlines.
There was an expectation that some short-term speculators would sell
after an agreement in order to liquidate positions or capture profits.
Gold pulled back by around $20 when electronic screen trading opened
Sunday night on reports that Republicans and Democrats were close to a
compromise. But the market soon regained its footing and went on to new
highs even as the two parties worked toward an agreement.
The following catalysts underpin the ongoing gold rally:
1) US debt crisis
President Barack Obama said congressional leaders agreed on a plan to
prevent a default, curbing demand for the metal as a protection of
wealth. Obama announced that leaders of both parties in the U.S. House
and Senate had approved an agreement to raise the nation’s debt ceiling
by $2.1 trillion and cut the federal deficit by as much as $2.5 trillion
over a decade.
Despite the temporary pullback in Gold and Silver, the debt deal is
actually bullish for precious metals. The debt deal allows the
government to continue its massive spending and debt cycle, which will
cause investors to seek out protection from the U.S. Dollar.
Furthermore, someone has to purchase government bonds, and the Federal
Reserve is the most likely candidate. The past two quantitative easing
programs from the Fed paved the way for all time record gold prices,
just imagine where QE 3 will put gold at in the near future.
2) European debt Issues
Meanwhile, investors remain wary of debt levels in periphery European
nations, with 10-year yields on Spanish and Italian bonds rising again.
Political leaders in both countries cancelled holidays and called
emergency talks to address the crisis that reignited fears of new and
bigger euro area bailouts for the first time since European leaders
reached agreement to contain the crisis on July 21.
3) Continuation of Central Bank Buying
News that the Bank of Korea bought 25 metric tons over the past two
months, its first purchases since the 1997-98 Asian financial crisis.
South Korea is the world’s seventh-biggest foreign-exchange reserve
holder.
Sixty-four percent of its reserves are in dollars. So in essence, they are diversifying their reserves.
Further, this only adds to expectations that China will keep adding
gold to its massive foreign reserves. It has the second-biggest economy
on the planet, and China is only the sixth-largest holder of reserves
with 1,054.1 tons. That’s only 1.6% of their currency reserves. If they
start loading the barrels…and start to diversify like South Korea has
done, you could see Gold continue to spring forward.
3) Recent Weak US Economic Data
The latest weak data from the United States, following a batch of
dour manufacturing surveys on Monday, added to fears over a
deteriorating global economy. U.S. consumer spending dropped in June for
the first time in nearly two years and incomes barely rose. Weak
economic data means low interest rates are likely for a longer period of
time. This supports gold several ways. It pressures the dollar, adds to
worries about longer-term inflation and means a lower so-called
“opportunity cost” of holding gold, or income that would be lost by
holding gold if investors instead could get higher yields in
fixed-income assets.
4) Possible Downgrades in US
A bill that has now passed both chambers of Congress has added to
worries about a downgrade of U.S. debt, which is supportive for gold.
Though the Senate has passed the bill to raise the US debt ceiling by
$2.4 trillion, it might allow the Treasury to keep paying bills till
2012; it is projected to trim the budget deficits by only $2.1 trillion
over the next decade. This is far below the roughly $4 trillion that
Standard & Poor’s has said was necessary to avoid a downgrade.
Last month S&P warned that the US faced a 50-50 chance of having
their credit rating cut within the next three months. Shortly after the
agency put the US on a negative watch, the value of the dollar fell.
Despite the debt deal made overnight which will include large spending
cuts over the next ten years, the rating is still under review.
5) Investment and Speculative Demand
Assets in exchange traded funds that follow gold prices are at an
all-time high as more investors tap the liquid vehicles to get exposure
to the precious metal. Holdings in exchange traded products backed by
gold climbed a record $113 billion on July 29, according to data from
Bloomberg. The roughly $66 billion SPDR Gold Shares is the largest ETF
in the category. Holdings in the SPDR Gold Trust, the world's largest
gold-backed exchange-traded fund, jumped six percent to 1280 tonnes in
July highest since end of last year. Holdings are only 40 tonnes less
than previous high of 1320 tonnes in June 2010.
Moreover, most recent data from the Commodity Futures Trading
Commission shows that as of July 26, the large non-commercial
accounts—essentially the funds— were net long by 269,489 lots for
futures and options combined, the most since last October.
Technicals
There is a strong upward channel trend from last three years in gold.
Even though critics of gold will quickly call an end to gold’s run on a
decline, investors should keep the big picture in mind. Gold continues
to receive buying support as it nears the bottom of this channel. Even
if gold declines to $1550, the longer-term technical trend looks strong.
(The author is Manager, Research: Edelweiss Comtrade Ltd.)
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