Sans crisis, gold will keep falling

Arjun Parthasarathy of DNA India summarizes the last couple years of activity in the gold market and reminds readers of the fundamental reason for buying the precious yellow metal: gold is a safeguard.

Gold price has fallen 17% from the highs seen in August 2011 and 9% over the last one year to around $1,581/oz – the lowest level in 2013.

But why is the price falling?

Gold price rose to record highs of $1,900/oz in 2011 as investors, worried about the collapse of the euro and high inflation in many emerging market countries, sought a safe haven for their money.

The movement of money into gold from other asset classes drove up gold price as much as 60% over the last five years.

Rising gold price enticed speculators who borrowed money and invested in the precious metal. This leveraging pushed up price to record highs.

The fact that gold has not been able to sustain record high levels and has come off by 17% from highs is now forcing speculators to deleverage on their gold investments.

Investors, too, are now staying away from gold as price is trending down.

Gold lost out as a safe-haven asset when the world averted the euro crisis and when inflation fell in emerging economies. The outlook for inflation is benign on the back of oil price forecasts being lowered due to higher oil production in the US. US trade deficit fell 21% in January 2013 on the back of lower oil imports.

Falling growth in the economies of China and India has weakened the outlook for industrial commodities, leading to further fall in inflation expectations. China and India are growing well below growth levels seen in the mid-2000s, with China’s growth coming off from double-digit levels to around 8% and India’s growth coming off from over 9% levels to below 6%.

The Reuters CRB commodity index, which tracks a basket of 19 commodities, is down 16% over the last two years.

Gold fell 2% overnight on Wednesday on the back of the US Fed’s minutes, which cast doubt oncontinuity of the asset purchases.

The Fed will have to wind down its asset purchase programme at some point, though it is not going to be any time soon.

However, gold investors are jittery, having seen prices fall from peaks. The reason to hold gold as a safe-haven asset is no longer strong, with no real threat to financial stability and inflation in sight.

The question is whether gold price will continue to fall or stabilise and go up.

The answer lies in the reason to hold gold. Gold as an investment to safeguard against currency instability or against inflation should have some crisis point coming up in the horizon. At this point in time, that crisis point is not seen.

India’s demand for gold as an asset to be hoarded in the form of jewellery or physical gold will not come down. However, speculative demand for gold as an asset whose price is expected to go up continuously higher, will come off sharply. Speculators may even short gold to take pull down price.

It is clear that gold price is headed down, unless some crisis point comes up soon.

Source: DNA India

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