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Deflation, slowing and a strong $ weigh heavily on metals

Commentaries & Views


In retrospect, the upside action in the precious metals complex this week has been extremely discouraging to the bull camp, as the Russian Foreign Minister’s comments regarding the potential for a nuclear war should have ballooned prices. Reports that Russian is stopping the flow of natural gas to Poland and Bulgaria suggests more uncertainty for the European economy, and yet that news has failed to spark much flight-to-quality buying. The dollar continues to make gains, discouraging a portion of would-be gold and silver buyers. As if the bear camp needed additional ammunition, China’s first quarter gold consumption fell nearly 10% from year ago levels off Covid fears and unattractive prices. Adding to that is news that Chinese first quarter gold production increased by 12%. Even a promise of an "all-out" push on Chinese infrastructure spending from President Xi has failed to support global sentiment, and that allows deflationary chatter to continue. In yet another bearish overnight development, gold ETFs reduced their holdings for a second day in a row, this time by 78,208 ounces, but year-to-date holdings are still up 9.2%. Similarly, silver ETFs saw an outflow of 2.3 million ounces, reducing their year-to-date gain to 2.2%. The most recent Commitments of Traders report suggests that the spec and fund net long in gold remains vulnerable to more stop loss selling. especially given the strong probability of a 50-basis-point US rate hike next week. The bull camp should also be disheartened with gold's failure to embrace two strong US inflation reports yesterday (the FHFA Home Price Index and the Case-Shiller Housing Price Index). While the June gold contract showed respect for the $1,900 level yesterday, the large down day on Monday was carried out on strong volume. It failed at that level in the early going today, leaving the technical bias in favor of the bear camp. Without a much-improved global economic sentiment, precious metal markets could find it very difficult to resurrect inflation style buying. However, in one positive demand development, Swiss gold exports to the US picked up significantly in the latest monthly readings, and that could be a precursor to improving investment demand down the road.


Even though the June Palladium contract spent most of Tuesday US trade in positive territory, the market remains largely unconcerned about a disruption of supply flow from Russia. It should also be noted that the General Motors Chief Financial Officer indicated that the company has enough palladium supply to last through the end of the year. With the sharp dip in prices this week, it is possible to argue that the brunt of war premium has been removed, even though supply will continue to be restricted. Just ahead of the Russian invasion of Ukraine, palladium prices were attempting to build a consolidation area just above $2,200, and that is where prices are currently. With inflation fears expanding and sanctions against Russia expected to remain in place for the foreseeable future, we view prices below $2,200 as undervalued. Unfortunately for the bull camp, palladium ETF holdings have shown a year-to-date decline of 1.5%. In an even more drastic sign of slack investment demand, platinum holdings are down 4.8% for the year so far. Platinum has returned to long term support around $900, and it could be difficult to press the market technically. However, with evidence of global slowing and moderating inflation, the bear camp continues to hold a fundamental edge.

MARKET IDEAS: With Jue Gold failing to hold key support at the $1,900 level for a third straight session and the brunt of classic fundamental issues favoring the bear camp, the bias is clearly down. Inflationary conditions remain under the surface, but they have been shifted to the back burner, especially with equities and consumer sentiment creating anxiety daily. The upside breakaway in the Dollar Index adds significantly to the bear case, and it could take a major development from the war to spark fresh flight to quality buying. The halt in gas exports by Russia to Poland and Bulgaria should rekindle energy price gains, which could temper current deflationary vibes.


Chinese infrastructure spending provides temporary support.

Fortunately for the bull camp in copper, Chinese President Xi overnight suggested his country will go "all-out" on infrastructure spending to support the economy. This announcement comes just as copper is vulnerable to further selling off Chinese demand fears. With a 13,325-tonne inflow to LME copper warehouse stocks overnight, supply news today has started out on a bearish footing. Like palladium, the copper market has now extracted most of its "war premium," but one could argue that the net takeaway from the war is a greater threat to demand than supply. While estimates vary, the trade sees Russian copper supply comprising only 4% of world production, and we suspect it is an even smaller portion of world copper export flow. On the other hand, with several major copper producers last week posting lower production, and trading volume on Monday’s washout extremely high, perhaps the market has reached fundamental value. Another copper mining firm overnight (Copper Mountain Mining) indicated their first-quarter production significantly lower than year ago figures (down 48%). With the recent COT report showing a spec and fund net long of 29,711 contracts and copper falling $0.31 or 6.5% from the date the data was collected into Monday’s low, we suspect the net long is nearing its lowest level since June 2020.

MARKET IDEAS: With the Chinese infection issue sitting heavily on the back of economic sentiment, promises of aggressive infrastructure spending from Chinese leadership provides a temporary underpin for prices. Even though the July Copper contract has removed a significant portion of war premium, a deteriorating global economic outlook leaves the bear camp confident. While we see good value at $4.43, ongoing declines in global equity prices could result in a temporary probe below $4.40 directly ahead.

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