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The Emperor of Metals Heeds a Warning from Copper

Monday March 11, 2013 10:48

Who is it in the press that calls on me?
I hear a tongue shriller than all the music
Cry "Caesar!" Speak, Caesar is turn'd to hear.

Beware the ides of March.

Julius Caesar Act 1, scene 2, 15–19

Mar. 11, 2013

Gold price confronted a polylemma after a better-than-expected U.S. jobs report Friday: multiple reasons to stumble lower included a U.S. dollar index at 6-month highs, loss of value to key commodities and a multi-year value low relative to the broader markets as money abandons the yellow metal for greener fortunes in stocks (Note 1). Although predictably dipping lower following the report, Comex gold chose to quickly bounce off its $1,560.4 per ounce low to score a $1,583.1 high and then closed at $1,576.9 - less than $5 from last Friday’s close. Even more surprising is that every closing price this month has varied only several dollars from the average even though the March intraday spread exceeds $25.

So is the fate of gold lately, lack luster but resilient. The Emperor of Metals patiently awaits new direction.

Beware the ides of March

Copper may soon prove to be playing the role of soothsayer for the Emperor. The red metal, which has faced downward pressure given brimming inventories and lowered expectations of Chinese demand, has an unusually high 1-month correlation with gold (+.92) and the 3-month number is growing increasingly positive (+0.65). This is in stark contrast to just one month ago when global commodities copper and oil had negative price short- and medium-term gold correlations (Ref 3). The Emperor has returned to the commodity forum with conviction.

Short-term correlations can be fickle so it is equally important to note that the gold-to-copper ratio, or GCR, is very stable following a trend toward greater stability that began after the market shocks of the U.S. debt downgrade Aug. 5, 2011. Figure 1 is a plot of ratio stability from Sept. 1 of that year to Friday’s close:

Figure 1 – Gold-to-copper ratio stability

In this context, stability is defined as the standard deviation of the GCR normalized by its mean over a 1-month period (red triangles). Ratio stability greater than 3% is considered divergent and typically occurs during periods of high market flux. After the U.S. debt downgrade, crashing copper prices created a divergent spike of nearly 6% on Oct. 6, 2011 following record gold prices that September. Spikes occurred last year in June and December but with descending severity. Notably, an exponential fit of this data (gray dashed curve) is converging on a very stable 1%-level together with Friday’s closing stability of 1.14%.

My copper target for next week is the geometric mean of its present trading range or $3.51 per pound ($7,740 per tonne). Given the present GCR levels and stability, this bearishly suggests a gold price that could test February’s low ($1,554.3 per ounce) on the downside; and on the upside, fail to break the psychologically important $1,600 per ounce by next Friday - the ides of March.

Gold value uptrend stable

My last three commentaries (Ref 2, 3 & 4) have explored gold’s 6-1/2 year value uptrend relative to the red metal. In mid-2006 an ounce of gold fetched about 200 pounds of copper. Presently an ounce is worth around 450 pounds – a value gain of roughly 40 pounds per ounce per year (Note 2).

Figure 2 is a plot of the uptrend slope from the end of the Great Recession to Friday’s close:

Figure 2 – Gold value uptrend slope relative to copper

During the recession gold gained premium on commodities like copper given its safe-haven allure and the latter’s deflated price. June 30, the slope was 140.3 pounds per ounce per year settling down to 42.58 presently. The current level has been very stable, hovering near the 40-level since mid-2011.

Although gold has lost value relative to the red metal since November, it shows no sign of breaking the long-term value trend. Friday’s GCR was 449.3 pounds per ounce only 0.6-standard deviations below the 6-1/2 year trend line currently at 487.7. A move down greater than 2-standard deviations would be cause for alarm – so far, go good.

R.J. O’Brien’s 3-month projections for copper

The stability trend of Fig. 1 can be combined with the value growth of Fig.2 to predict gold price given an expected range for copper prices. This morning, R.J. O’Brien projects 3-month prices for copper (Ref 1) with $7,850 per tonne range at the top end of the range and $7,600 at the bottom. These endpoints and their mean are given in rows 2 and 3 of Table 1. The expected GCR range is given in column 2:

Table 1 – 3-month gold price projections ($ per ounce)

The GCR values extrapolate the current 1-month average (444.5 pounds per ounce) with a 3-month value growth of 10.6 pound per ounce (i.e. 42.58 pounds per ounce per year divided by four, Fig. 2) to derive a mean value of 455.1 pounds per ounce in 3-months. The upside/downside bounds are calculated using the 1% stability variation of Figure 1.

A fool’s errand?

It’s a fool’s errand to imply that any one factor can foretell the price of gold. However, the recent closeness of gold’s relation with the red metal, an unusually stable gold ratio and a longer term value uptrend serve an important role in developing a thesis for the future direction of both metals.

Table 1 develops nine combinations for a 3-month gold price outlook given R.J. O’Brien’s copper projections together with the gold-to-copper ratio trend growth and stability considerations explained above. The most bullish case has gold slightly above $1,630 per ounce; the most bearish, a retest of the $1,550-level. Less than half the combinations (4 of 9) break the important $1,600 per ounce level that has eluded the gold market since late February. Most (7 of 9) are higher than Friday’s closing price and above March support (8 of 9). The lowest projection is a dollar less than February support at $1,554.3 per ounce.

RJO states, “Gold is beginning to consolidate after the recent heavy selloff. Good support still lies in and around the $1,550 basis spot while the upside is still probably capped at around the $1,630 basis spot.” – Good agreement with Table 1.

The Emperor battered but not defeated.

Note 1: On a value basis gold has fallen 20.0% relative to the S&P 500 since Nov. 11, 2012, a multi-year low. Gold has shed 7.6% of value with respect to copper from Nov. 15, 2012 and 19.7% with respect to WTI crude oil from Oct. 29, 2012. However, given historical norms gold is still priced at a premium to global commodities copper and oil.

Note 2: The 6-1/2 year record for this analysis is Jul. 20, 2006 to Friday’s close, Mar. 08, 2013; a total of 80 months.


Ref 1: Metals, Mining & Macro Monitor (R.J. O’Brien Metals, March 11, 2013)

Ref 2: Oil, Copper & Gold – All in the Family (Richard Baker, Kitco commentary, Jan. 22, 2013)

Ref 3: Oil, Copper & Gold – Beware the Snake? (Richard Baker, Kitco commentary, Feb. 11, 2013)

Ref 4: Oil, Copper & Gold – Don’t Worry (Richard Baker, Kitco commentary, Feb. 25, 2013)

By Richard Baker, CP Value Analytics


Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Metals Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Metals Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in precious metal products, commodities, securities or other financial instruments. Kitco Metals Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.

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