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Das Rheingold

By Jon Nadler       Printer Friendly Version Bookmark and Share
Nov 17 2009 10:35AM

Good Day,

Following Monday's massive, manic metals melt-up, the complex simmered down just a bit during the overnight hours, as the US dollar once again managed to come back from the darkness under the 75 mark on the trade-weighted index - in small part because the same speech by Ben Bernanke that intimated that an extension of the life-support systems for carry traders would remain in place until perhaps H2 2010, also contained an explicit statement about the Fed's eye in fact being also focused on the same phenomenon. Thus, some irrationally exuberant specs took a bit of foam off the glass of bubbly, by cashing in about $10 worth of chips.

New York spot bullion started the Tuesday session at around the $1130 level, on the back of such an approximate $10 drop, as the trade observed a 0.41 gain by the greenback that brought it to 75.31 on the aforementioned index. Against the euro, the dollar was seen at 1.488 following yesterday's approach to the 1.50 mark once again. Oil prices gave up very little in this morning's action, dropping only 28 cents, to $78.62 per barrel.

This morning's economic statistics -according to Marketwatch - show that: The output of the nation's factories, mines and utilities rose 0.1% in October. The gain was due almost entirely to a big jump in utility output. Every other sector except material production was flat or down. The October increase was less than expected by economists surveyed by MarketWatch. Analysts had been expecting a 0.4% gain. Capacity utilization - a gauge of slack in the economy -- rose to 70.7% in October from 70.5% in September."

In so many words, quite a distance from the 75 mark on C.U. The number needed in order to show that the slack is safe(r) to ignore. Wage pressures continue to be invisible, inflation is not only contained, but well so.

Silver lost 18 cents, opening at $18.22 per ounce, while platinum was pulled $16 lower at the start, quoted at $1433 per ounce. Palladium fell $6 to $368 in early going in NY. Rhodium showed no change at $2287.50 an ounce, following yesterday's surge. The latest report from Johnson Matthey shows that: "net global palladium demand is forecast to decline by 3.8 per cent to 6.52 million ounces this year according to Johnson Matthey. Autocatalyst demand will be depressed by lower light duty vehicle production in most regions. Electronics, dental and chemical sector purchases are also set to fall due to the effects of the economic slowdown.

However, the low palladium price will boost physical investment demand and jewellery demand will rise slightly. Total supplies of palladium, including the sale of 960,000 ounces from Russian state stocks, are expected to fall by 1.8 per cent to 7.18 million ounces. The palladium market is therefore forecast to be in oversupply in 2009 by 655,000 ounces.

The existence of a surplus in the palladium market has weighed on the price over recent years. However, investors seem aware of the imbalance between demand and current mine production and are bullish for the palladium price over the longer term. Demand for palladium will benefit from a recovery in vehicle production volumes and if the funds continue to invest the palladium price could rise to $390 during the next six months. However, any weakness in gold and platinum prices or a strengthening of the Dollar may undermine the price with the possibility that palladium could trade down to $290 during the same period."

Meanwhile, the same JM report finds that: demand for platinum jewelry is surging to a six-year high after a plunge in prices spurred record Chinese consumption, compensating for the weakest usage by carmakers since 2000. Supply will outpace demand by 140,000 ounces, compared with a shortfall of 240,000 ounces last year, after a 33 percent drop in demand from autocatalyst makers, London-based Johnson Matthey said in a report. Chinese jewelry demand will weaken next year while rebounding economic growth will boost vehicle production and may move the market back to a deficit.

Finally, as regards rhodium, the Johnson Matthey analysts conclude that its: "surplus will increase almost seven-fold to 171,000 ounces this year, the most since at least 1985, as demand drops 18 percent to 548,000 ounces because of weaker auto sales and as supply increases 3.5 percent. The metal has climbed 98 percent this year to $2,475 an ounce, according to prices from Johnson Matthey on Bloomberg."

Elliott Wave analysis chimed in on yesterday's gold price spike and found major dollops of the above-mentioned euphoria: "The Daily Sentiment Index ( has been at, or above 90 percent gold bulls since November 3, a string of 10 straight days. The only other comparable streak of optimism over the past 22 years of data is leading up to the December 2, 2004 gold high when the DSI was at, or above 90 percent for 20 consecutive days. At that time, prices made a high at $458.70, declined over 10 percent, and did not exceed the December 2004 high again for the next 10 months. But during this entire 20 day stretch, optimism never reached the single day extreme that today did, with fully 97 percent of traders optimistic on gold's future prospects. This time, we expect a larger decline, one that lasts longer too."

The summary from's Carl Johansson was perhaps a bit less cautionary in mathematical terms, but equally blunt: "Johansson urged that the bull run was already well ahead of itself, and that current prices may not be sustainable into the new year. What we're seeing is turning into a speculative blow-off scenario, he added. People have become frenzied, as no one wants to miss this bull run. But facing reality, gold remains an asset that will eventually prove prone to profit taking as gains will eventually fail to match expectations, and with the current positioning of the market opening for a rollercoaster ride lower."

Materially, none of the above differ much from Dennis Gartman's CNBC quip during which he advised no one to be naive and not recognize that gold is in fact, in a bubble - albeit a bubble within which he will stay for the time being, as there may be more gains at hand. Completing the round-up of findings about yesterday's pyrotechnic price developments, we also looked at a source recently recommended to us by our good friend Jay Taylor.

Jay is a regular in the Kitco commentary section, (as well as a source with which this writer has not always been in agreement with, but has -on the other hand- always been able to conduct a civil discourse with, no matter the occasion or the topic). Jay advised a couple of weeks ago that we look at the contributions of Bob Hoye (he, of Mr. Hoye's alert late yesterday observed that while perhaps the Monday numbers were not the final pinnacle just yet, at least one item is worthy of being considered by late-comers to the gold party, and that is, that:

"Gold is generating its first daily upside exhaustion alert since January 2008. This alert occurs when a market exhibits urgency on the part of investors to buy. Major tops have been seen in gold when weekly and monthly alerts are generated. Daily signals, such as this, tend to occur around minor highs and lead to corrections back to test the most recent breakout or a pause until the 20-day moving average catches up to the price. In this case $1070 appears to be a reasonable targeted support."

We remain perturbed by several other factors in this two-and-a-half month-old spike. One, such fact(or) is the lack of growth in the gold ETFs. There is a sizeable disconnect between the accumulation patterns seen in this mother-of-all physical gold buying vehicles, versus the 'paper' market offered by futures. "The world's 17 physically-backed gold ETFs saw inflows in Q3 09 of just 42t, lower than the 47t seen in Q2 09. After outflows in July and modest inflows in August, September saw a pickup to 66t. However during October, when the price soared again, inflows saw just 7t added." - observes the latest market analysis from BNP Paribas. The mountain of futures positions built since the 1st day of September by specs might well be dubbed "Amon Amarth" by now, given the sheer size of it, and the foundations upon which it was built.

We are also cognizant of another significantly shifting aspect of the market, one which could have a manifest influence on prices as we go forward into 2010 and 2011. After all, it did have a significant (and highly beneficial) effect of gold prices up to this very point in time. It is called dehedging, and it ought not to be ignored. BNP Paribas, in its latest report on gold and gold hedging activities, observes that "de-hedging, together with its relevance to the global supply and demand balance, is coming to an end. Total hedging is likely to be by the end of the year 10 Moz or below, and while we expect the total to continue to fall, providing support to the market, the annual amount is unlikely to be very much more or less than 4 Moz. Even if for whatever reason the entire 10 Moz gets closed out, then it will only postpone the inevitable.

In that (unlikely case) the gold market in 2011 would by definition have no support from dehedging. This is going to be quite a fundamental change to the market in coming years . a reduction in demand equivalent to the entire US jewellery market ceasing to be, or put another way, an increase in supply akin to finding another South Africa (and indeed another Canada as well). Yet currently the gold price is at record highs and the market is seemingly unconcerned."

Well, we remain concerned. It might well be that the market is failing to react to such imminent and ominous developments because it is caught up in this carry trade-induced euphoria, and that it is focusing on the lack of central bank sales (which have now turned into mild accumulation). Central bank sales have fallen faster than the acceleration rate of de-hedging, and this is providing some of the comfort level among spec players. However, this sword too, has two edges.

BNP goes on to conclude that: "The decline of hedging and associated central bank lending means that central banks are now getting almost no return on their gold. While the price continues to appreciate that should not bother them, if it turns downwards it might become more of an issue and sales might resume. Another possibility is that hedging makes a comeback, and gold starts flowing out for that purpose. Put both together and we would then get to see a rerun of the 1990s." - What happened in the 90's cannot be mentioned in church. Firms even got sued for hedging. It was tantamount to manipulation, you know.

Closing out today's veritable gold mine of metals market matters, the Fed's take on what will help the dollar get back on track. Yes, the markets treated the perspective as vacuous jawboning, as more of the same, as pie-in-the-sky. "Verbal intervention with no major threat of physical intervention or rate hikes really means nothing," said Kathy Lien, director of currency research at GFT Forex, in e-mailed comments yesterday. But, mentioned it must be, as it was one of the few (if any) recent such statements that contained direct references to the greenback and how to cure its ills. Bloomberg sums it up for us:

"The U.S. economy will continue to grow in 2010 and this expected strength will help ensure the dollar stays firm, Federal Reserve Chairman Ben S. Bernanke said Monday. In a rare move, the Fed chief made several remarks on the U.S. dollar, which has fallen in value recently as global economic activity has picked up and investors no longer seek the safety of dollar assets.

Bernanke said the central bank will keep a close eye on the dollar's slide but reiterated that the key federal funds target rate is expected to remain at record lows for some time due to a still-fragile economic recovery.

"Our commitment to our dual objectives (of maximum employment and price stability), together with the underlying strengths of the U.S. economy, will help ensure that the dollar is strong and a source of global financial stability," Bernanke told the Economic Club of New York. He added that the Fed is "attentive to the implications of changes in the value of the dollar."

Fed officials rarely talk about the U.S. currency in public, because dollar policy is overseen by the U.S. Treasury. Bernanke's remarks come a day after a top Chinese bank regulator criticized the U.S. for keeping interest rates low and the dollar weak, saying the move was encouraging speculation in world markets. President Barack Obama arrived for his first visit to China on Monday. To lift the dollar's value, the central bank would need to raise rates, thereby increasing the return investors get on dollar assets.

For the first time, the Fed's rate-setting committee earlier this month spelled out the three key indicators it will be looking at to set rates: unemployment, core inflation and inflation expectations."

Where this leaves us at this juncture, is still, largely, anyone's guess. Not that firm assertions will not be made as to the black hole towards which the US dollar is putatively headed, or the burning inflation that awaits just around the corner, or the $X,XXX towards which gold is inexorably headed. For now, let's stick to what is manifest. That is, that :a weak dollar, which tends to boost the price of dollar-denominated commodities such as crude oil and gold, has increasingly been seen as behind the market's rally. "And the weak dollar has helped not only energy and materials," said Nolte of Dearborn Partners. "It's helped pretty much all asset classes."

The dollar's sharp descent this year was largely about giving back some of its rally during the credit crisis, when global investors jumped into the perceived safety of the greenback. But the dollar has also increasingly been at the center of a so-called carry trade. With interest rates effectively at zero in the U.S., global investors seeking risks and higher returns have increasingly borrowed risk-free dollars to invest in higher-yielding currencies and assets, such as stocks, commodities and emerging markets.

These trades have kept pressure on the dollar as investors short the currency to invest elsewhere. A number of analysts, including New York University economist Nouriel Roubini, have warned that this latest asset bubble can continue until sometime early next year, but that the removal of easy money by global central banks might bring about a shock to those assets that have rallied the most on pure speculation.

Recognizing that those concerns have recently gained traction, Federal Reserve Chairman Ben Bernanke said Monday that dealing with asset bubbles is "the most difficult problem of the decade." After a speech in New York, however, Bernanke said it is now "hard to tell whether there are large misalignments in financial markets."

Hard to tell? Well, "since March, the price of crude oil has doubled to about $80 a barrel. The price of gold keeps breaching new highs, leading a rally among metals and commodities of all stripes." - informs Marketwatch.

What is hard to tell at this time, is the point at which the Fed and Treasury decide that 'misalignments' are obvious enough in order to do something (as opposed to just say something) about them. Therein lies the danger - as Prof. Roubini sees it- and, it brings with it, contractions of the type that could make the previous liquidation frenzy of 2008 look like a dress rehearsal. For "Apocalypse Then."Valkyrie Ride, and all.

Jon Nadler
Senior Analyst
Kitco Bullion Dealers Montreal



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