Gold Attractively Valued as Macro Risks Linger


 Fragile investor sentiment: While the resurgence of risk appetite over the past month has seen a rotation toward more cyclical assets, investor  sentiment remains fragile, as evidenced by the market plunge following the Italian election results. Prior to the  announcement of the Italian election results, net speculative longs in metals with industrial uses such as platinum,……

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      palladium, silver and copper remained either close to or at their all-time highs, while major equity markets had  posted solid gains.

      Gold fundamentals remain constructive

      Meanwhile, net speculative longs in COMEX gold had hit the lowest levels since December 2008 (see chart), as  investors seemed positioned for ‘the worst is over’ scenarios. How quickly sentiment can shift. The gold price came  under pressure last week as some investors overreacted to the release of the January FOMC minutes, believing  discussions about the timing of stimulus withdrawal would prompt a premature end to the Federal Reserve’s  economic support. A rebound in the gold price followed Fed Chairman Bernanke’s testimony to the House Financial  Services Committee  with investors appearing to revise their (mis)interpretation of the FOMC minutes. Bargain  hunters have since begun to emerge, giving some stability to the gold price around US$1,600oz, while trading turnover on the Shanghai Gold Exchange hit a daily record last week. While the technical picture fuelled the liquidation of gold holdings and the subsequent price decline, macro fundamentals suggest a potentially attractive  entry level, as global financial markets remain awash with liquidity, global interest rates expected to remain  extremely low for the foreseeable future and key macro risks lingering, particularly for the Eurozone economy that  is likely to remain in recession in 2013 according to the European Commission.
      Gold remains a hedge against downside risks to the cyclical recovery

      The failure to avert the automatic spending cuts that will take place this week (March 1st) in the US is a cogent  reminder that policy paralysis could stop the global recovery in its tracks. Starting with Italy, austerity-fatigue could  lead to a change in policy course more generally across Europe, threatening investor sentiment that has taken so  long to recover. The inconclusive results from the Italian General Election have already rattled markets and could  further weaken the Euro. Investors are likely to find increasing value in gold as a hedge against downside scenarios  given that its price is now 16% below its peak reached in 2011 (in US Dollar terms).  

      Central banks provide a potential floor for the gold price

      While a cyclical upswing may have diverted some investors to more risky assets, emerging market central banks  have been keenly buying gold, providing some support to the gold price. World Gold Council data showed that  official sector purchases of gold rose 29% year on year in Q4 2012 (and a full year rise of 17%). The central banks of  Russia, Mexico and Brazil were the key buyers. Despite the pledge by developed countries to “refrain from  competitive devaluations” at the recent G20 meeting, emerging market central banks are likely to continue to  acquire more gold to diversify their foreign exchange reserve holdings, given the unintended consequences of  persistent loose monetary policy on the value of major reserve currencies.

      The bottom line
      1.  Gold is attractively valued as macro risks linger
      2.  Technical sell-off gained momentum as the market misinterpreted Fed minutes again
      3.  Gold rebounded driven by investor belief that central banks remain committed to providing expansionary
      monetary policy until a persistent improvement in economic activity is seen


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