London Gold Market Report

Mon, Oct 6 2008, 12:12 GMT
by Adrian Ash

SPOT GOLD PRICES jumped $34 early in London on Monday, bouncing well above last Friday's low at $820 to touch $860 an ounce as world stock markets sank in the face of desperate promises of Tax-Funded Aid from major governments.

Crude oil sank 4% to trade below $90 per barrel, an eight-month low. Soft commodities all fell hard, as did base metals, while the low-yielding US Dollar and Japanese Yen both rose sharply on the currency markets.

"The oil-gold-Euro correlation is well and truly busted," said a London trader to BullionVault by phone this morning.

"Oil is tumbling and the risk aversion trades are flying. The Yen is going through the roof now everyone's taking about deflation."

During the 1930s Great Depression, the purchasing power of Gold Bullion more than doubled for US investors as the Dow Jones index dropped seven-eighths of its value from top to bottom.

For Japanese investors, already suffering deflation in asset prices for nearly two decades, the purchasing power of Gold has risen by more than 85% since 1989.

The Nikkei stock index, in contrast, remains almost three-quarters off its top. Residential Tokyo real estate has just slipped back to 2005 levels, down by some four-fifths from the top of the late-80s bubble.

"Gold will [now] outperform its commodity peers as investors seek refuge from risks associated with the US Dollar, shaky banks and extremely volatile equity markets," reckons new analysis from BMO Capital Markets, the North American research and brokerage group.

"Long term, gold should benefit from a weakening trade-weighted Dollar, which is needed in order to help reverse the substantial global trade and current account imbalances (with China and others) in existence today.

"Other supportive factors include the possible monetization of the US's massive and growing public debt obligations, and rising physical demand coming from the developing world."

Following the final approval of $700 billion in tax-funded aid to Wall Street on Friday, South Korea today pledged $240 billion of foreign currency reserves to Seoul's biggest banks.

Germany promised on Sunday to back all private bank deposits, matching last week's pledge from the Irish government and sparking a fresh run of "Competitive Bail-Outs" in Austria and Denmark.

"Central banks are now being seen as the main providers of liquidity within these markets, and it's very bad for sentiment," said one State Street analyst in Hong Kong to Reuters this morning. Looking at the deeper problem of surging interest rates in the open market – a surge which has forced a collapse in Gold Futures and options trading – "if G7 central bankers cut rates in a co-ordinated way," says Steven Barrow at Standard Bank, "the market assumes it will be because all else has failed.

"Rate cuts, if they are to come in this way, could come very soon indeed."

Asia's main stock markets today dropped more than 5% of their value, while the Japanese Yen – previously used to fund highly geared bets outside Japan – jumped to a two-year high vs. the Euro.

For Japanese investors holding gold, the price in Yen held around ¥2,840 per gram. European gold buyers saw the Gold Price in Euros leap to €632 an ounce – up more than 4.2% from Friday's finish – as the single currency sank to a new 13-month low vs. the Dollar of $1.3545.

"What are investors going to do with the massive amount of dollars that the US has flooded out?" asks Dr Pongsak Hoontrakul, senior research fellow at Chulalongkorn University in Bangkok, speaking to The Nation.

"If investors do not want to hold the Dollar, what other choices do they have for reserve currencies?"

Investors trading the SPDR Gold Trust – the world's largest Gold ETF – last week pushed its holdings up to 755 tonnes. But with hedge funds and other leveraged speculators forced to raise cash to redeem clients, meet margin calls, and settle their debts, the trust shrank by two per cent on Friday.

The total number of Gold Futures and options contracts now outstanding shrank by almost 9% in the week-to-last Tuesday, according to new data from US regulator the Commodity Futures Trading Commission (CFTC).

Since peaking in January, outstanding volume in the Gold derivatives market has shrunk by more than one-third. The growing bid for physical metal, in contrast, has cleaned out coin shops worldwide, emptying even the largest retail gold dealers of the leading products.

Wholesale Gold Bullion dealers remain fully stocked, with turnover in London – heart of the world's professional gold market – seeing around $63 billion of physical trading per day.