By Paul Ploumis 10 Sep 2015 Last updated at 03:53:39 GMT
According to ETF Securities, gold has shown signs of bottoming out during the month of August this year.
(Kitco News) - Ignore gold’s weakness Wednesday, says one researcher, because August may just have been the beginning of the end for the yellow metal.
According to Mike McGlone, head of research for ETF Securities, gold is showing signs of a potential bottom as many bearish factors dissipate.
“Gold was one of the few positive performing assets in August, gaining 3.6% as prevailing deflationary asset price trends extended into the U.S. stock market,” McGlone said in a research note released Wednesday.
However, “the extended period of above average U.S. stock market returns, below average volatility and U.S. dollar strength may have ended,” he added, noting that these are some of the main factors that have been pressuring the yellow metal.
“Year-to-date (YTD), gold ended August as the best performing precious metal (PM) with a decline of 4.2% on the back of a 6.2% YTD increase in the U.S. Dollar index and 7.6% decline in crude oil. August may mark the initial recovery month following a potential July capitulation bottom in gold,” he added.
Another major factor weighing on gold has been the looming Federal Reserve rate hikes, which McGlone said, based on market expectations, may not happen this year.
“If the primary asset class, the US stock market, recovers to new highs and the VIX Volatility Index (VIX) drops back below 13 again, the Fed is more likely to tighten and gold is more likely to suffer. However, this scenario is unlikely,” he said.
McGlone explained that the Fed’s primary concern is ‘excessive risk taking’ and will only make a move on rates once they are ‘reasonably confident’ that inflation will move back to 2%. However, McGlone said that current market conditions show deflationary forces are at play.
“Plunging commodity prices and declining bond yields, notably since the beginning of 2014, indicate that the greater risk to the global economy remains towards deflationary forces and an economic slowdown,” he said.
As an example, McGlone looked at the Bloomberg Commodity Index (BCOM) -- which has followed a deflationary trend hitting multi-year lows this year -- and said if the index ends 2015 with a loss, it would be its fifth successive annual decline. He added that since its creation in 1991, BCOM never sustained “more than two successive years of declines.”
According to McGlone, the index lost around 0.9% in August for a YTD decline of 12.8%.
As a result, McGlone said market expectations on Fed normalization have shifted, with more participants not expecting a move this year at all. “At the beginning of the year, Fed Funds Futures expected a total of about 60bps of tightening in 2015. At the end of August, Fed Funds were priced for less than 20bps,” he said.
“If these trends continue, the Fed should be more inclined to join most of the world’s central banks and shift focus away from restraint and back to providing additional liquidity,” McGlone said.
The Federal Open Market Committee (FOMC)’s next monetary policy meeting will take place Sept. 16 and markets are awaiting to see if the central bank will make a move, or at least hint at one, for the first time in nine years.
Finally, backwardation in the gold market, which often indicates excess demand and lack of supply, may be another reason for McGlone’s confidence in gold.
“Gold futures entered a rare bullish backwardation condition in August as China economic fears increased,” said the research director. “The last time COMEX gold futures were in a similar backwardation condition (1st to 3rd contract) was from December 2013 through February 2014. Gold rallied from $1,190/oz. in December 2013, topping out near $1,380/oz. in March 2014.”
Courtesy: Kitco News