2011-03-19

Gold support still firm


Gold is finding resistance on approach of $1,430. While this may continue for some time, and we do not discount a correction towards $1,380, we still believe that gold will touch new highs in 2011. As pointed out on in Commodities Daily of 25 Feb 2011, apart from heightened risk aversion due to the political tensions in the Middle East, the rise in crude oil is resulting in
secondary developments which we believe are adding further support to gold. Also, real interest rates have been dropping like a stone again. Currently, the US 5 year inflation linked bond yield is at its lowest level since at least 2004.

The decline in real interest rates is the result of a rapid increase in inflation expectations in recent days, while nominal interest rates remain largely unchanged. As pointed out in Commodities Daily yesterday, given that
  1. inflation has been largely absent in the US, and
  2. the US Fed doesn't target inflation explicitly, the likelihood of the US raising nominal rates remains small. In fact, the probability the futures market assigns to a rate hike of 25 bps by year-end has declined in recent weeks, from 36.8% at the start of January, to only 22% yesterday.
Furthermore, we view the statement by the Bank of Japan this morning, where they indicate they would pursue powerful monetary easing and continue to pursue ample liquidity, as bullish for gold. Therefore, given that short-term nominal rates aren’t likely to rise, real interest rates should remain low by historical standards. Furthermore, as long as the Fed continues to expand
its balance sheet, and other countries continue to accumulate foreign reserve assets, global liquidity should continue to grow. We therefore expect gold to move higher in 2011.

We believe that gold could touch $1,500. At this stage, we target $1,500 in Q3:11, as in the interim we foresee seasonal weakness in the physical gold market. The end of Q1 and Q2
typically see gold scrap volumes increase, which is likely to subdue the gold price.

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