Gold Plunges $30, Analysts Warn of Further $300 Drop
Daniel Ghali, a commodities analyst at TD Securities, has stated that high gold prices have not yet adjusted to the market's lower expectations for interest rate cuts, which could lead to significant corrections.
In a research report on Monday, Ghali wrote: "The price action is inconsistent with a 'behind the curve' Federal Reserve, and if anything, last Friday's non-farm report marks the first concrete challenge to the market's expected path of rate cuts." "The interest rate market has already begun to significantly reprice the Fed's path, but gold prices have not yet been dragged down by liquidations."
He added: "After all, given the Fed's tilt, there are limits to repricing the path of an easing cycle, and gold still maintains a high margin of safety before the first CTA selling plan begins, with macro fund inflows continuing to support higher prices, albeit marginally." "Interestingly, we still do not see signs of significant inflows. Contrary to what the price action suggests, there have been no significant inflows into gold over the past few weeks, according to our positioning analysis."
Ghali noted that it is surprising how little market liquidation there has been, given the weakening support for gold prices at such high levels.
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"Our measure of macro fund positions is now at an all-time high, and our estimates for this group's positions are now slightly above the levels seen a few weeks after the Brexit referendum. Gap risk has increased, but the repricing in the interest rate market has so far failed to facilitate liquidations, indicating that macro funds are still willing to bet on 'too loose' policies."
Last week, Ghali pointed out that despite weak Asian demand, the threat of direct military confrontation between Iran and Israel is driving safe-haven funds into gold.
Ghali said in a research report: "Gold sales activity is somewhat limited, but top traders still liquidated nearly 5 tons of notional gold last week." "This contrasts sharply with the sentiment of Western investors. Our interpretation of macro fund positions remains at the highest level since the Brexit referendum in July 2016; the re-leveraging of risk parity and volume target funds is supporting the reaccumulation of CTAs, and prices continue to rise without challenge."
Ghali stated that interest in the United States and Europe is primarily driven by concerns about inflation and currency devaluation.
He said: "For Western investors, concerns about currency inflation are intensifying as participants believe the Fed's reaction function is asymmetrical, at a time when the U.S. economy is still doing well in many respects." "Given that aggressive global easing policies similar to current market expectations are usually implemented in response to deteriorating economic or financial conditions, we expect monetary policy to normalize more cautiously to challenge bloated positions."
He added: "Historically, the prospect of currency inflation has benefited gold prices, but there is no doubt that the actual prices have challenged levels not seen since the 1980s, macro fund positioning has become extreme, central bank buying activity has slowed, and renewed confidence in Asia could undermine the main drivers of gold demand." "In the short term, the prospect of direct confrontation between Iran and Israel is driving more capital towards gold."Ghali has been a voice of caution among recent bulls in the precious metals market. In early September, he warned that the gold market seemed overbought according to several key indicators, and prices could drop by $200 or more per ounce.
"I absolutely think there's risk," Ghali said when talking about gold at $2500. "The setup in the gold market today is different from what it was a few months ago from every perspective."
He added: "We believe that a lot of the bullish rhetoric that investors are discounting has already been baked into the cake." "Meanwhile, the physical market is completely different from what it was a few months ago. There's been a strike by buyers in Asia. Please note that most of the buying activity could actually be related to currency devaluation hedging, partly because retail investors want to diversify their wealth when the Chinese real estate market is risky, the stock market is plunging, and the bond market is not necessarily seen as a good investment, so there really isn't any other choice besides putting money into gold."
Ghali said that the outlook priced into the market today is completely different. He pointed out: "What we're talking about is a soft landing emphasized by a fairly aggressive rate-cutting cycle." "Capital should move from the areas with the lowest productivity to the areas with the highest productivity, so if the market's global macro expectations are correct, then you would actually expect capital to move to more productive uses, which is not in line with the current pricing of gold."
When asked at what price he would like to repurchase gold, Ghali said that his target is a significant drop from the current level.
He said: "We believe that a price close to $2300 is reasonable compared to the historical analogies we discussed earlier." "Historically, moments of tight positioning like today can lead to a 7% to 10% drop, so this seems reasonable to us."
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