Gold and the debt ceiling: Running out of catalysts

UNITED STATES October 17 2013 12:24 PM 
 
NEW YORK (Scrap Register): Gold prices responded positively to the debt-ceiling debate in 2011, but sentiment is less supportive since then and the metal is turning to the EUR/USD for guidance, which implies downside risk, said Barclays Capital in a research note.

Amid a plethora of catalysts, gold prices have failed to rally despite the delay in Fed asset purchase tapering or political uncertainty in Italy. Prices have dipped below $1300/oz since the start of the US government shutdown but, as we have noted previously, gold’s subdued reaction was in keeping with previous episodes of government shutdowns.

“However, our economists believe the larger risk to the markets is if the debt ceiling is not raised by 17 October with the first interest payment of $6bn becoming due on 31 October and the next of around $30bn on 15 November,” Barclays added.

According to Barclays, gold prices reacted positively to the debt-ceiling debate in 2011 rising from below $1500/oz to almost $1800/oz over the course of a month, amid positive market sentiment towards gold given the debate coincided with broader sovereign debt concerns, such as Moody’s downgrade of Japan’s government rating and euro area problems.

But gold market positioning and prices were far more muted at the start of this year amid uncertainty surrounding the sequestration and then the pending debt-ceiling deadline. Gold prices tumbled from close to $1700/oz to below $1600/oz by mid-February and speculative positioning was scaled back by almost a third.

“Our economists base case is the debt ceiling will be raised in time. Thus, although a catalyst lingers that could push gold prices higher, given the negative market sentiment and our base case, prices are likely to resist yet another opportunity,” the firm added.

So what is gold tracking? Gold had been closely following US 10 year treasuries, and on an intra-day basis it continues to do so. But in 2011, when prices rallied, gold’s correlation against a number of external markets had weakened substantially, while at the start of this year the 3-month correlation against US CPI was the strongest.

But the correlation with the USD/EUR has strengthened and our FX strategists view for the USD to retain its recent weakness over the remainder of the year but gold has sidelined yet another positive, thus risks to the upside look to be capped again for gold amid negative market sentiment, particularly given the more hawkish-than-expected September Fed minutes, Barclays concluded.