Pullback in Gold may Continue as US tames Currency Tensions

ONG Focus | Insights | Written by Oil N' Gold | Wed Oct 20 10 07:23 ET

Commodities rebound as the sharp fall yesterday attracts bargain-hunting. WTI crude oil price rose above 80 ahead of the oil inventory report. The market regained confidence on Chinese demand after Zhang Fuqin, the bureau chief of PetroChina's Planning and Engineering Institute, said the country's net crude oil imports may reach 310M metric tons in 2015. Moreover, some investors continued to buy commodities with the view that the rate hike in China would push the RMB higher, hence, positive for commodity demands.

Gold price recovers to 1343 as USD's rally eased. While we do rule out seeing another leg of decline, the long-term outlook for the metal remains bullish. Factors sending gold to record higher in recent weeks have not yet dissipated. Easy monetary policies together with heavy fiscal deficit in the US and others in the advanced world, currency tensions originated from global economic imbalances and sovereign risks in the Eurozone are expected to linger as the financial leaders struggle to revive the economy.

In our opinion, gold's pullback in recent days was driven by US Treasury Secretary Timothy Geithner's attempt to ease currency tensions. Geithner said that the US did not intend to weaken the dollar as no country could 'devalue its way to competitiveness'. He also affirmed the US will work to preserve confidence in a strong currency. While his comments were interpreted as a tactic before the G20 meeting this week and the US mid-term election in November, the dollar rebounded, pushing risky assets lowers.

Another short-term catalyst was China's unexpected rate hike. When PBOC raised the required reserve ratio by +50 bps in January, gold plunged 10% while the euro and equities dropped. While we do not expect the same magnitude of decline in gold this time as the market has partly factored in the possibility of Chinese tightening given strong economic data from the country. Yet, market sentiment will be affected in the near-term.

According to BOE's minutes for the October meeting, policymakers voted 7-1-1 for keeping the Bank Rate unchanged at 0.5% and the asset-purchase program at 200b pound. While Andrew Sentance voted again for a rate hike of +25 bps, Adam Posen favored further easing by expanding the asset-purchase program to 250B pound. The minutes said that 'some of the members felt the likelihood that further monetary stimulus would become necessary in order to meet the inflation target in the medium term had increased in recent months'. Posen's view is shared by the British Chambers of Commerce (BCC). The Chamber said while 'we support the painful fiscal measures that the government is preparing to implement, it is important to reduce the risk of a downturn, and increasing the QE program can play an important role in sustaining demand in the economy'. The move 'is necessary given the expected impact on the economy of the forthcoming VAT increase and spending cuts'.

 

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