Thursday, November 27, 2014

Has gold further to fall? | Risk of high volatility this weekend

Gold has been oscillating between the 200 month Exponential Moving Average (EMA), which is itself falling, and the nice round figure of 1200 USD to the Troy Oz for the last year and a half. Any rise towards the 200 Month EMA resistance level will have coincided with scares or events that might have seemed to postpone the ending of Quantitative Easing (QE) in the USA.

The justification for the rise in gold since the start of QE was that the measure was likely to increase inflation, and gold was seen as a hedge. The expected rise in inflation never happened. In fact the fear of central bankers the world over now is of inflation that is too low or even negative.

While the bond purchases that constituted QE have now ended, the Federal Reserve still has the task of unwinding the positions it took on while it was in operation. It can do this by either selling the bonds (unlikely in the short term), by simply allowing them to expire (a long-term proposition), or by a combination of both. So there still just might be some justification on these grounds for holding gold, although they are diminishing.

Recently, as can be seen on the chart, the price of gold has dipped below the psychological 1200 USD per Oz level, and is now using that as resistance rather than support. So technically, gold could be about to break further to the downside.

Fundamentally too, the days of elevated gold prices have to be numbered. The precious metal is tying up cash that will, immediately core interest rates begin to rise in the developed world, start to seek yield. Gold, as we all know, does not carry any yield whatever, and there is only so much demand from physical gold buyers in China and India that can support it. The upcoming Swiss referendum on gold holdings, while it may have extremely short-term effects (see below), is really a side-show as far as the price is concerned.

Risk of high volatility this weekend

The Swiss referendum on the amount of gold that its central bank should hold as part of its reserves, which we referenced recently (The Swiss nostalgia for gold), takes place this weekend. At the same time the value of the Swiss franc relative to the Euro is dangerously close to the 1.20 cap that has been imposed by the Swiss authorities. Either of these circumstances would be calculated to cause some excitement in the Forex market, but both together have the potential to result in heightened levels of short-term volatility or, worse still, a gap when the market reopens for trading on Sunday night GMT, either up or down, all of which can be bad for traders’ account equity.

Many brokers have circulated their clients with notices pointing this out and, in so doing, imposing stricter limits on leverage. It would be prudent to close positions involving the Euro and the Swissy in particular over the weekend or, if sitting on a decent paper profit in an open position, engage the use of a protective hedge.

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