Market Opinion - Commodities
Gold Rush
One month ago, we were asked our view of gold. We declared a neutral view, but suggested that the technicals were perhaps indicating upside potential. Indeed, we stated that a break above US$440/oz would trigger a rally to the 2004 high of US$456/oz. Last week’s close above this level is a very bullish signal.
As readers will know, we very much like to back up a technical opinion with a fundamental view, as well as gauging how the market is thinking. As for gold, the traditional theory of the metal acting as an inflation hedge seems a reasonable explanation for the bullish price action. Of course, old school economic theory has not been much help this year with regards to US bond yields or the US dollar, but in the case of the precious metal, the inflation theory is winning out, and market participants are certainly picking up on it.
Although we feel that long-term inflation well remain under control, there are clearly short-term upside risks, which are already starting to show. High oil prices, and more importantly the shortage of refined products, exacerbated by Hurricane Katrina, are having a marked effect and are being built into inflation expectations. While the prices paid component of the latest Philadelphia Fed survey revealed the highest gain since 1973, US one-year inflation expectations have spiked from 3.1% to 4.6%. Europe is feeling it too. UK CPI rose to 2.4% y-o-y this month, the highest reading recorded since the new series came into effect eight years ago, while consensus estimates for the upcoming German HICP is for a figure close to 2.5%, from 1.9% previously.
With regards to gold fundamentals themselves, the supply-demand balance is supportive. According to statistics released recently by the World Gold Council, demand rose by 12.2% y-o-y in Q205 and the market was in deficit to the tune of 81 tonnes by the end of the quarter. Consumer demand for gold jewellery rose to 2,600 tonnes in the year to June 2005, with strong demand from India, which purchased 517.5 tonnes for consumer purposes and 100.2 tonnes for investment. In addition, demand from China rose by 12.0% y-o-y. Interestingly, both countries are experiencing robust economic expansion and will continue to do so going forward.
Finally, the latest rise in the value of the precious metal is all the more impressive in so far as it has not been accompanied by dollar weakness, as is usually the case. This would suggest that demand for the metal is genuine. A medium-term rally to US$480.00/oz, or even US$500.00/oz, cannot be ruled out.
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