Wednesday’s fall continues the capitulation of yellow metal prices seen since the Bank of Japan announced it would increase the amount of money it is pumping into its economy, after which gold prices fell over 5%.
Bernard Dahdah, metals analyst at Natixis told Portfolio Adviser it was the surprise nature of the announcement that saw gold sell off.
“By comparison, if you look at what happened last week when the US brought its quantitative easing programme to an end, while gold fell a little it did not go down by much.”
Dahdah added that Wednesday’s continued falls could most likely be attributed to a combination of the continued impact of the Japanese announcement, but also to dollar appreciation.
“Looking into 2015, we believe gold is likely to be heavily dependent on dollar strength. The bank is predicting that the dollar will continue to strengthen and as a result we see further downside of the metal for the next few quarters, with the low point likely to be just ahead of the first rate hike announcement by the Fed, which we expect to come in June next year.”
Upsetting the base case
UBS also remains fairly bearish on prices for the yellow metal, pointing out in a note out on Wednesday that the bank’s current macroeconomic outlook creates an unfriendly environment for gold.
UBS is predicting an uneven but ongoing improvement in the global economy over the next two years and does not expect inflation to rise materially over that period.
“Policy divergence whereby the Fed is expected to hike rates by mid-2015 while central banks such as the ECB and the BOJ maintain very accommodative policies should further boost the dollar which is already benefitting from US growth. All of this describes a world that has less need for a safe-haven like gold and indeed in our opinion paints a backdrop that is not supportive for the yellow metal,” it wrote.
However, the bank says that, while the outlook is poor, it is already largely reflected in gold’s price movement so far this year. But, it said, there are also risks both on the up and downside to this base case. That, like the surprise announcement by the BoJ, could have an impact on metal prices.
On the downside, UBS points to a more aggressive than expected hike in US rates by the Fed, a hard landing in China and, finally, better than expected economic growth in the US as possible reasons for a further sell-off in the metal. A capex-led boom in the US, it explained, would mean that gold faces even stiffer competition than it already does from equities.
On the upside, however, a worsening outlook for global growth as a result of the normalisation of Fed monetary policy could lead to renewed interest in gold, as would the deflation in Europe.
And, finally, it writes, gold would likely get a fillip if the there was a significant shock, be it geopolitical, or otherwise, to global consumer confidence.
Pocket of optimism
While sentiment toward the physical metal looks likely to remain poor for some time, there does seem to be a change of opinion emerging in relation to the miners themselves ANZ pointed out in a note out on Wednesday.
It said: “Market sentiment for gold prices looks bearish. But investor positioning in gold miners paints a different picture, and suggests investors find better value in gold miners than they do in gold.”
As a result of the sharp declines witnessed across the whole of the gold mining sector in the past few years, ANZ explains, the beta of gold stocks to the gold price is currently 2, the highest it has been in years, a situation that implies that were gold to rebound, the miners are likely to outperform the metal itself.
Part of the reason for this is that gold miners are now a great deal more exposed to movements in the price of the metal than they were ten years ago, when the trend was to sell forward a lot of production in order to lock in prices.
As ANZ said: “Since the peak, gold has declined by 40% to just above USD1,150/oz. Comparatively, the decline in the price of gold stocks (as measured by the NYSE Arca Gold Miners Index) is around 75%, underperforming gold by a ratio of nearly 2:1.
“On one level, this reflects the expectation that future cash flows are likely to be lower than was perhaps assumed previously. The sector as a whole also saw costs rise sharply through the 2001-2011 bull market in gold. The impact of this high expenditure has now come home to roost in a market where the price of gold is in decline. The flip-side is that gold mining stocks are now much cheaper than gold on a relative basis and may provide good value."
ANZ points to shifting flow patterns between the SPDR Gold Trust (which has seen significant outflows) and the Market Vectors Gold Miners ETF (which has once more begun to see inflows) as evidence for this optimistic view of the equities.
Ultimately, whether or not one is likely to buy gold or gold stocks will depend on one’s view on the outlook for the metal and, indeed, one’s view of the way forward from here for the global recovery.
There is no way to be completely certain about what the outlook holds, but what is true is that while gold mining stocks have performed poorly in the past few years, they have also seen massive management changes and most have cut their costs significantly in recent years.
