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June 28, 2013 5:20 pm
How low can it go? As the gold market ends its weakest quarter since it was depegged from the dollar, that question is being nervously muttered from trading floors in New York to miners’ boardrooms in Johannesburg and Lima.
Since the start of the year, the metal has tumbled 29.5 per cent; the FTSE Gold Mines index of gold equities has plunged 52 per cent.
And the rot shows few signs of slowing down: yesterday gold touched a fresh three-year low of $1,180 a troy ounce.
“At the moment gold shares are not far off pricing in the end of the world,” says Evy Hambro, who as head of BlackRock’s gold and mining funds is among the world’s largest gold investors.
The slide, which began in earnest in April, has accelerated in the past fortnight after Ben Bernanke, Federal Reserve chairman, set out for the first time a framework for the US central bank to exit its programme of “quantitative easing”.
Hedge funds, inspired by a strengthening US dollar and declining inflation expectations, have been betting against gold for some time. But bankers say that Mr Bernanke’s remarks helped to trigger a wave of selling by supposedly longer term investors – the wealthy individuals with Swiss bank accounts and pension fund managers who have been instrumental in fuelling gold’s decade-long bull market.
“What was a long-term holding, now that the price is $300 lower doesn’t look so long-term any more,” says one senior precious metal banker.
The scale of the shift away from gold by investors has been dramatic. Exchange traded funds, an easily accessible and highly visible form of gold investment, have sold a fifth of their holdings so far this year, while investor positioning in US gold futures and options is the least bullish since 2005, according to the Commodity Futures Trading Commission.
Gold prices have suffered their sharpest fall since the 1980s, heightening fears that the metal’s decade-long bull run has ended
Some argue that investor positioning is so extreme that the gold price is unlikely to fall much further in the short term. Jeffrey Currie, head of commodities research at Goldman Sachs, says: “Looking at the extent of the movement in the gold price recently, we think it is going to trade sideways from here and is at a near-term bottom.”
Indeed, some of the hedge funds betting on lower gold prices have been targeting lows of about $1,150-$1,200 an ounce, suggesting that a rally could be imminent as they take profits on their bets by buying the metal.
But, just as in the boom years the gold market surprised analysts and traders alike as it leapt from one record high to another, now that prices are sliding few are willing to call the bottom with confidence.
“The key question is how low do we go? For the gold market it is typically to the next round number, but we have moved so quickly that now people are forced to catch up,” says Kamal Naqvi, head of commodity investor sales at Credit Suisse. “It is currently a race to be the most bearish among the analysts.”
Worryingly for gold bulls, Asian buyers – a key source of support in previous price declines – have been quiet as prices slid in recent weeks. Indian demand has been tempered by government moves to restrict gold imports; and Chinese investors appear to be waiting it out after buying when prices fell in April only to see them plunge even further.
“Asian appetite simply isn’t there,” says Philip Klapwijk, managing director of Precious Metals Insights, a Hong Kong-based consultancy.
Instead, investors are increasingly looking at the cost of producing the metal. According to William Tankard, research director at Thomson Reuters GFMS, a consultancy, at prices of $1,200 a troy ounce roughly half the gold mining industry is losing money.
But mines take time to close and miners are likely to find ways to reduce costs. And even if some mines do close down, the amount of supply affected is likely to be small relative to the potential sales by investors. ETF sales so far this year of 541 tonnes are higher than the annual mine production of any country.
“I don’t think you’re going to see a large portion of industry suddenly announce that they’re closing,” says Mr Tankard. “It’s going to be a much longer drawn out process.”
So what could arrest gold’s decline? Short of a reversal in policy from Mr Bernanke, traders and analysts are increasingly turning to corners of the market that have been ignored for years as investment flows came to dominate gold prices.
First, a sharp fall in gold prices is likely to stimulate a recovery in jewellery demand, which has fallen 30 per cent since 2005 on the back of sharply rising prices.
Second, the drop in prices is likely to trigger a sharp reduction in sales of old gold for scrap, which last year accounted for 36 per cent of global supply. Already, traders say, scrap supply has fallen sharply
in response to the price falls.
“When was the last time you saw an advert to sell your gold for cash?” asks Mr Hambro. “I haven’t seen one for months and months. Scrap supply should start to fall.”
How much will prices need to fall for these old-fashioned fundamentals of the gold market to counterbalance investor selling? “You’ve got to see scrap absolutely crushed down,” argues Mr Klapwijk. “That talks to me of a $1,000 price.”
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