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(Kitco News) - Gold futures, already under pressure lately from indications of an improving U.S. economy, extended its downtrend Thursday on signs of weakness elsewhere around the globe.

In particular, soft manufacturing data in China fueled worries about demand from this key commodity consumer, sending industrial commodities like crude oil and copper lower and pulling gold down with them. Then, a soft European manufacturing reading undercut the euro and gave the U.S. dollar a lift, thereby hurting the yellow metal.

As of 11:20 a.m. EDT, April gold futures were $13.80, or 0.8%, lower at $1,636.5 an ounce on the Comex division of the New York Mercantile Exchange. The contract traded down as far as $1,627.50, its weakest level since Jan. 10.

April gold was threatening to take out the $1,800 a mark in late February before a slide brought about by reduced market hopes for further U.S. quantitative easing. That idea was triggered by the lack of any such hints from Federal Reserve Chairman Ben Bernanke in a Feb. 29 congressional appearance, a slightly improved Fed assessment of the economy in its last policy statement, and three straight months with rises of more than 200,000 jobs in U.S. non-farm payrolls.

“That took away one peg leg of the stool (that had been) supporting the gold market,” said Dave Meger, director of metals trading with Vision Financial Markets.

Data from Europe and Asia pushed April gold overnight below its previous multi-week low of $1,634.70, which was hit on March 14.

The preliminary reading for HSBC’s manufacturing Purchasing Managers Index for China fell to 48.1, its lowest level in four months, compared to the final February reading of 49.6. Readings below 50 signal economic contraction, and vice-versa.

“We all realize that as China goes, commodities prices seem to go, given their significant demand,” Meger said. “As we have concerns about their economy slowing, we understand that we will have concern about demand in commodity markets moving forward.”

China for some time has been the world’s largest consumer of copper. And, along with India, China also is one of the world’s two largest buyers of gold.

The soft PMI reports are also “somewhat anti-inflationary,” said George Gero, vice president and precious-metals strategist with RBC Capital Markets Global Futures. Investors tend to buy gold as a hedge when they are worried about inflation, and vice-versa.

“On top of that, we had a firmer dollar on the back of some weak PMI numbers in Europe,” Meger said. “So with the firmer dollar and concerns about weak demand from China, it’s not surprising that we’re seeing commodity prices down across the board.”

The overall eurozone manufacturing PMI was 47.7, falling from 49.0 in February. The eurozone PMI stemmed from weakness in Germany and France, which are normally the growth engines for the region.

“Today's report confirms the view that the euro area is still in the midst of a technical recession. This is not surprising given the headwinds currently facing the euro area,” said a research note from analysts at Nomura.

The euro fell to late-morning level of $1.3167 from $1.3214 late Wednesday. A stronger dollar tends to hurt commodities generally by making them more expensive in other currencies. Further, it reduces buying of gold as a hedge against a weak greenback.

Jim Steel, precious-metals analyst with HSBC, also tied declines in gold to the softer tone in crude oil and equities. Nymex May crude oil was $2.51 lower to $104.76 a barrel, while the Dow Jones Industrial Average was down by nearly 100 points.

“At the moment, it (gold) is trading more as a currency,” Steel said. “The stronger the dollar, the weaker gold is likely to be.”

Bill O’Neill, one of the principals with LOGIC Advisors, said gold is currently trading as a risk asset, thereby falling with industrial commodities after the weak Chinese and European economic data.

“Gold has been defensive to start with,” O’Neill said. “It had a failed attempt to rebound from Monday’s $20 sell-off. It had an anemic rally yesterday. And then when this negative (Chinese and euro-zone economic) news came in, we saw selling pretty much across the board, as far as industrial metals were concerned, and gold as well.”

The past “enthusiasm” for gold seems have waned, he continued.

“The funds are not stepping in,” he said. “We are not seeing the levels of scale-down dealer buying that we have seen. It has certainly taken on a defensive tone and technicals have weakened as well.”

Meger added that some of the weakness also appears to be connected to Tuesday’s options expiration.

Gero said the next key technical chart support for gold is around $1,625, with the market currently in the lower end of a $1,625-$1,700 range.

Meanwhile, Gero said that open interest—the number of futures positions open at the end of the business day--fell during the last two weeks. This means speculators who were heavily long gold sold to close out some trades. Comex gold open interest stood at 479,044 lots as of Feb. 28, the day before Bernanke addressed Congress and kick-started the recent skid in gold. As of Wednesday, open interest had fallen to 435,225.

Data Could Lead To Chinese Easing, But ECB May Unable To Follow Suit

Some market participants may take some solace in the idea that negative economic news may elicit a monetary policy response from China, with Nomura’s Asian economists saying they “believe this puts additional pressure on the Chinese authorities to ease policy further.”

Yet the European Central Bank may not have the ability to do so, Nomura said. Digging further into the PMI data, Nomura noted that pipeline inflationary pressures continue to rise and are at a nine-month high.

“With headline inflation currently set to remain above 2% throughout 2012, a rate cut at this stage would be a tough sell,” Nomura said.

Analysts at Barclays Capital Research said while the sub-50 Chinese PMI reading “does not necessarily mean a manufacturing recession in the coming months, it does reflect the continued moderation in growth, especially given the soft trade growth at the beginning of the year.”

The firm said the Chinese economy could continue to show further softness into the second quarter of this year, led by a deceleration in investment.

Bob Tebbutt, vice president of risk management at Peregrine Financial Group Canada, said it’s possible the Chinese manufacturing numbers may improve in the months ahead.

“For example, China’s iron ore imports for steel-making have been steadily rising over the past few years as they have continued to build infrastructure domestically to develop their domestic demand structure…,” he said. “Another interesting item is Naphtha, where imports are up 47% on the year and as Naphtha is closely associated with industrial activity, it would have to be considered a bullish indication of Chinese potential growth.”

By Allen Sykora asykora@kitco.com and Debbie Carlson of Kitco News dcarlson@kitco.com


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