Weekend Update November 21

By Everett Millman, head content writer at Gainesville Coins, a leading gold and silver distributor.

 

ABSTRACT: The U.S. stock market continued to climb anew this week, momentarily halting on Wednesday before pushing higher again on Friday. The precious metals tracked with equities, rebounding from recent lows on concerns over a global economic slowdown. With China cutting interest rates, Japan sliding into recession, and the European Central Bank considering all stimulus options, the outlook for the markets heading into 2015 remains rather unclear.

 

GOVERNMENT & POLICY

Fed Plans New Regulations for Wall Street, But Not Itself

Following a two-year Senate investigation into the role Wall Street banks are playing in the energy commodities trade, the Federal Reserve is now considering new measures to rein in the risky behavior of the country’s most powerful banks. The investigation concluded that the banks have derived an unfair competitive advantage in the commodities trade following the widespread integration of these financial institutions into the commodities markets. Moreover, the Senate panel charged that these advantages, and the scale of Wall Street’s activity in commodities, poses a systemic risk to the financial sector. Any large disruption or accident–think: the BP oil spill–could bring the markets to their knees if the current arrangement remains in place.

Perhaps the most egregious behavior of this sort is Goldman Sachs’ ownership and operation of maritime warehouses for holding aluminum. The Fed has heretofore ignored concerns that the firm was permitted to both actively trade in the aluminum market while also controlling storage facilities. Goldman would delay shipments of aluminum stored in their floating warehouses and simultaneously speculate on the aluminum price rising.

The Fed is mulling over imposing stiffer capital requirements for the banks, as well as a regime of increased scrutiny over activity on Wall Street. The irony is that, at the same time, a Senate subcommittee is about to hold a separate hearing regarding the New York branch of the Fed being “captured” by Goldman Sachs. Revelations that regulators from the NY Fed handled Goldman with kid gloves are hardly revelatory; the notion that the central bank will actually do anything about it is dubious, bringing into question the entire story about tightening the rules for Wall Street. This also comes at the same time as the ECB has dropped CitiGroup from its team of expert currency traders due to Citi’s entanglement in the recently unearthed Forex rigging scandal.

While the conclusions from the Senate investigation undoubtedly ring true, the coincidental timing of the proposed resolution is almost certainly a farce. Nothing will change. The same system will stay in place, if only slightly more concealed from the public.

Oh, and Goldman Sachs says the Fed’s rate hike will come sooner, and accelerate faster, than most people are expecting. And they should know, even though they’re not in bed with the Fed or anything of that sort.

MARKETS

Stocks, Metals Rise In Tandem

After trading mostly sideways in the five trading days previous, stocks pushed into the green on Tuesday. News of Halliburton’s takeover of oil giant Baker Hughes was initially taken as dovish for stocks, but skepticism that the $38 billion may sour subsequently divided market sentiment. If it is indeed finalized, the acquisition would bring the total amount paid in mergers this year involving U.S. companies to $1.5 trillion, the most in nearly 15 years.

Economic news from abroad had a considerable effect in the U.S. this week, as uncertainty from the Eurozone, Japan, and China has helped make investment in the American economy look particularly attractive. The Dow Jones and S&P 500 continue to flirt with record highs on a daily basis, erasing short-term memories of their steep tumble in October. The dollar has been seeing its highest volatility in 9 months; after whipsawing all week, the DXY dollar spot index jumped above 88.0 on Friday morning. After rising earlier in the week, the yield on 10-year U.S. Treasuries dropped 2 basis points on Friday to 2.32%.

An ambivalent tone permeated the FOMC meeting minutes, confounding traders after its release on Wednesday afternoon. With no clear signal about whether the Fed was leaning in a more hawkish or more dovish direction, many traders simply opted to sell, leaving U.S. stock indices mostly flat for the day. The Nasdaq was dragged into the red nearly 30 points, dropping by 0.57% on weakness in tech stocks. Crude oil prices finally got a reprieve, as both WTI and Brent crude prices recovered about $1 each. Both benchmarks remain mired below the $80, however.

Despite the modest gains in equities, precious metals rebounded this week. Platinum rose further above the $1,200 mark while its cousin palladium again approached $800 for only the third time since its September slide. After halting below $15.90, silver bounced back in earnest, trading above $16.60 by Friday morning. Gold advanced above $1,200 on Friday, the third consecutive Friday during which the yellow metal made significant gains. From a technical perspective, the move upward has transformed gold’s 50% Fibonacci retracement line at $1,186.70 from a resistance level to its new support. If this reversal continues, gold may avoid its second consecutive year of losses; another year in the red would extend gold’s worst losing streak since 1998.

Moreover, murmurs in the gold market about negative gold forward (GOFO) rates are beginning to get louder. Essentially, the gold forward rate represents the interest one can expect to pay to borrow dollars with gold as collateral. A negative rate indicates a shortage of physical gold; rather than being charged interest to borrow dollars, investors are now paying interest to borrow gold. The gold lease rate even rose from 8 basis points to 34 basis points (0.34%) in a span of just two weeks, and ETF gold holdings (almost entirely a Western phenomenon) are at their lowest levels in five years.

The GOFO rate is negative out to six months, and hasn’t been this far in negative territory in 14 years. The shortage of physical gold in the near-term is a direct result of the past two year’s massive flow of gold bullion from West to East. Gold leaving Western vaults for Asia will likely not end up back on the market, as China and India have not only been buying up gold at historically high rates, but are also content to hold it. Gold refineries in Switzerland are seeing a delay of several weeks in filling orders for 1 kilogram gold bars, as 400 oz London Good Delivery bars leaving the COMEX are being recast into kilobars for the Asian market. If the GOFO rate is any indication, physical gold may be hard to come by three months from now.

GEOPOLITICS & WORLD EVENTS

Germany Surprises With Strength, Japan With Weakness

The U.S. joined most of the rest of the world in posting disappointing manufacturing numbers this week, but by far the worst reports came from Japan.

Despite the unprecedented expansion of quantitative easing by the Bank of Japan, traders were nonetheless caught off guard when Japan’s 3Q GDP showed a drop of -1.6% when annualized. This was obviously nowhere near many analysts’ expectations of a 2.2% increase, and followed last quarter’s abysmal decline of 7.3%. The Nikkei 225 plummeted over 500 points on the news, contracting by about 3%. This will likely place downward pressure on crude oil prices as expectations for energy demand in Japan (the world’s third-largest economy) have been revised lower.

This development officially plunges Japan into a recession. Prime Minister Abe has indicated that the planned national sales tax increase, originally scheduled for April, will now be pushed back to 2016. Like Abe’s ambitious “Abenomics” plan of unparalleled quantitative easing, the tax hike is intended to finance much-needed infrastructure improvements to kickstart Japanese growth. In light of the dismal GDP numbers, Abe is now dissolving the Japanese parliament and calling for snap elections next month in an attempt to regain a mandate for his stimulus policies.

While the Bank of England worries about deflation risks and the European Central Bank is now putting even greater QE measures on the table, Germany appears to be reasserting itself as the Continental stalwart. German economic sentiment was surprisingly robust, as the Zew Economic Outlook survey reported a reading of 11.5–twelve times the expected level of 0.9. This follows a negative metric for the same survey last month. Meantime, Frankfurt became the first European financial center to agree to settle payments directly in renminbi (Chinese yuan). Just last week, China inked a similar deal with Australia to supply the People’s Republic with raw materials. These agreements not only decrease global demand for dollars used in international trade, but show that Germany may be poised to breakout of the EU slump if it is not dragged down by the rest of the Eurozone.

News & Notes

Russia has added 35 tonnes of gold to its reserves in the last two months to try and protect the ruble. The central bank has increased its gold holdings by 150 tonnes year-to-date. Most of the gold has come from domestic sources, as the government must prop up its gold mining companies amid trade sanctions.

In an attempt to stave off an economic slowdown, the People’s Bank of China cuts it interest rates for the first time since 2012.

Gold seizures in Bangladesh are 100 times the volume of last year, likely contributing to rising gold smuggling into India. The World Gold Council reports that 3Q jewelry demand is up 60% year-over-year in India despite high import duties and other restrictions on gold.

Adding to Japan’s woes, the Bank of Tokyo-Mitsubishi has agreed to pay a $315 million fine to U.S. regulators for submitting a misleading report about its dealings with countries under U.S. sanctions.

The Dutch National Bank reveals that the Netherlands has quietly repatriated 122.5 metric tonnes of gold from the U.S. This accounts for a full 20% of Dutch gold reserves. Germany’s Bundesbank is now feeling pressure to have its portion of its gold reserves repatriated from New York.

Mexican protests over police corruption and the abduction of 43 students have culminated in tens of thousands marching in Mexico City. Speculation abounds that the government is using plain-clothes saboteurs to try and discredit the protests by sparking violent riots.

 

A LOOK AHEAD: The options expiry falls on Monday, as traders must either close out contracts or roll them over into futures contracts. This is often a flashpoint for activity in the paper gold markets. OPEC members will be meeting on Thanksgiving while markets are closed in U.S. Most expectations are that the oil cartel will cut production in order to combat fledgling crude oil prices. Next week will see plenty of economic data coming down the pipe in the States, with GDP numbers announced on Tuesday, and first-time jobless claims, durable goods orders, and new home sales set to be released Wednesday. The markets will watch closely when the Swiss gold referendum takes place Nov. 30, a week from Sunday.

 

By Everett Millman, head content writer at Gainesville Coins, a leading gold and silver distributor.