Gold trapped between soft physical demand and economic fear: Clyde Russell
Saturday, 04 August 2012 | 00:00
Gold remains trapped in no man's land between hopes it will rally if Western central banks are forced to further ease monetary conditions and the reality that physical demand in Asia remains tepid.
For the past three months spot gold has traded in a relatively narrow band either side of $1,600 an ounce, well off its high this year of $1,790.30 reached February 29.
While bouts of lower volatility aren't that uncommon with gold, the lack of a clear direction has coincided with a time of darkening clouds over the world's economic outlook.
There now appears to be a synchronised slowing of manufacturing in China, the United States and Europe with the JPMorgan Global Manufacturing PMI falling to 48.4 in July from 49.1 in June, the second month it has been below the 50-mark that separates expansion from contraction.
There is a fairly strong correlation between the JPMorgan index and the gold price since the 2008 global crisis, with the precious metal tending to rally in the wake of gains in the PMI and stabilising, or declining, after the PMI turns weaker.
If this relationship extends, it implies that gold's risks are more weighted to the downside given the JPMorgan index has slid from 55.4 in February to 48.4 last month.
At the end of February gold was trading at $1,694.70 an ounce, meaning it has dropped only 6.2 percent since then to its current level around $1,590.
The precious metal probably hasn't declined further because of the risk of a renewed flare-up of the European sovereign debt crisis and the increasing chance that the U.S. Federal Reserve will have to undertake a third round of quantitative easing (QE) to try and safeguard the tenuous economic recovery.
Both of these are definite risks, but are still not certainties.
Graphic of JPMorgan Global PMI vs. spot gold r.reuters.com/tav79s
The European story since 2008 has been one of muddling along and doing just enough to prevent a meltdown, as can be seen by Greece's recent excursion to the brink of withdrawal from the euro, only to stay in at the last moment.
And the Fed has also signalled that going down the QEIII path is probably its least preferred option.
Both the European Central Bank and the Fed have disappointed hopes that they would act, with both opting for jawboning rather than action in recent public statements.
Certainly, investors haven't been flocking to gold exchange-traded funds, the most popular vehicle for both retail and professional fund managers.
Total gold ETF holdings have nudged up to 69.945 million ounces in recent weeks, but this is still off the 70.89 million peak for this year reached in March, when fears were at high over disruptions to the oil market from Western sanctions against Iran's nuclear programme.
What this means for gold is at the moment it can only draw some support from fears of further crisis in the Western economies.
That leaves it largely dependent on physical flows, particularly in the top consuming nations of China and India.
Here the picture is mixed, insofar as while China appears to be buying more gold, it isn't enough to offset the decline in Indian demand.
China has already overtaken India as the top buyer of gold so far this year, and since it doesn't report purchases the best indicator of demand is net exports from Hong Kong to the mainland, which is the major way China purchases gold.
For the first five months of the year net gold imports from Hong Kong have averaged about 44.7 tonnes a month, up from the average 31.6 tonnes a month over 2011.
This is a gain of about 13.1 tonnes a month, or almost 160 tonnes for the year if the same pace is maintained over the rest of 2012.
However, India's first half imports plunged almost 59 percent to 250 tonnes as the rupee weakened, making the domestic price higher, and the government doubled its import duty.
This means India bought about 175 tonnes less in the first half, more than the extra that China may for the whole of 2012.
The Indian outlook isn't for a major recovery in the second half either, with a Reuters poll forecasting 135 tonnes of demand in the third quarter, down from 205 tonnes in the same period in 2011.
A slightly more bullish view was put forward by Prithviraj Kothari, president of the Bombay Bullion Association, who said second half imports could total 300 tonnes, meaning the full-year decline would be about 30 percent.
However, that's still about 235 tonnes less demand in 2012 than the previous year, and considerably more than the additional gold the Chinese are likely to buy.
Central banks are still buying more gold, but after the six-fold gain in 2011 a more modest growth rate this year is likely, with Russia, one of the major buyers, already having stated it will buy less than the 100 tonnes it did in 2011.
With physical demand for gold at best steady, but most likely to continue its gradual weakening trend, it will take a major escalation of economic fears for the precious metal to rally.