(Kitco News) – The recent piling in of momentum traders into the gold market has increased the odds of a sudden and sharp slide in prices, according to HSBC Chief Precious Metals Analyst James Steel.
“I think you have to look at the genesis of the move,” Steel said in a recent Yahoo News interview. “In addition to geopolitical risks, which are significant, we've also had a lot of extraneous players coming into the market in the past several months, who I think are not so much interested in the price of gold as such, but they wish to hedge their equity exposure. There's a lot of debate in the equity markets about how high equities can go, and many managers, fund managers, pension managers, et cetera, have no alternative but to be in equities.”
“But they do have a choice about if they hedge, and if they hedge that risk,” he added. “And gold has a proven safe haven in that regard.”
Steel said gold’s rapid rise has pulled in many momentum traders, which increases the likelihood of a sharper downward correction. “I think that's where we have to be somewhat concerned, that if we get some days where things are static, we could easily get a pullback in the price,” he said, adding that he’s seeing a lot of demand destruction in the physical markets. “It's getting very expensive for price sensitive economies to keep buying the underlying physical.”
Steel said that the newly arrived momentum traders “may or may not be well versed in the fundamentals of gold,” but are instead reacting to straightforward buy and sell signals as the gold market approaches record highs in nominal terms and cautioned that these nominal values can be misleading.
“I would point out for your viewers that gold hit $850 an ounce in January of 1980, which if converted into today's dollars is $3,000, around $3,200,” he said. “Now, I'm not saying we're going to go there by any stretch of the imagination. But I would point out that, from a real term perspective, we're not at historical highs.”
Asked whether nominal all-time high gold prices will spur central banks to become sellers, Steel said that for the most part he expected the opposite.
“Almost one out of every three ounces of gold that was mined in 2022 went into a central bank, and not much less in 2023,” he said. “Now, I think we have seen some slowness this year. They're aware of the price as well, and it is high.”
Steel pointed out some examples of sovereign selling but said that according to the latest numbers, they’re very much in the minority. “The IMF released data a couple of days ago that showed a couple of central banks were sellers in March,” he said. “But I do think, over the long haul, that central banks are on balance, on a committed buy program. But they certainly don't have to buy at the rapacious rate they did in the last two years.”
Steel also addressed the unusual market phenomenon that has seen gold and the U.S. dollar move in tandem, along with virtually everything else at times.
“This is not usually a good sign,” he said, adding that there’s a fundamental economic argument “that gold is the world's supreme hard asset, the dollar is the world's supreme paper asset. They should be inverse, and they usually are.”
“When they both move up together it's usually a sign of elevated risk,” he concluded. “But it also doesn't last in the long run.”
Earlier this year, HSBC warned that even amidst elevated geopolitical risks, the repricing of Fed rate cut expectations, which were as high as 138bps at the time, would likely drive gold prices back below $2,000 per ounce. “Should the scale of these anticipated cuts not fully materialize, then the price of gold may backtrack,” the analysts said.
While they believe gold could come under some selling pressure in the coming months, HSBC does see a limit to the downside.
“A number of bedrock factors will sustain the price of gold at what would still be a historically high level,” HSBC said. “For example, geopolitical and trade risks are elevated and may stay high in 2024, as 75 nations hold elections, lending underlying support to gold prices. And central bank demand remains historically strong, triggered by geopolitical risks and portfolio diversification needs, but may not be fully sustained at price levels above $2,000 per ounce.”