Gold market report: Consolidation from the end-August peaks continued this week

The price performance of gold and silver with open interest on Comex is shown in the two charts below.



Both charts show low or declining open interest over the last month while prices rose. This is evidence that the bulls have not so far returned to the market. For this reason, any knock-down in prices has nothing to do with shaking out long positions. However, given the rise in prices over the last two months some consolidation is to be expected. The extraordinary short position on Comex has been reduced somewhat, but is still relatively high, and at last the gold forward rates in London briefly turned positive at the beginning of the week. Further encouraging the consolidation was the strength of the dollar, with the yen getting close to the Y100 level, and the 10-year US Treasury challenging 3% yields.

This is short-term stuff and we need to stand back and consider the interest rate outlook and how it will affect precious metals. We must not underestimate the potential flood of money leaving bonds in search of less interest-rate sensitive assets such as residential property since the tapering debacle. Even auto loans are running at high levels indicating money is being borrowed to buy capital goods while interest rates are still low. All this points to one thing: GDP in the major economies will surprise on the upside as this money is reflected in economic activity.

The pressure for interest rates to rise is building, even though all the four major central banks have clearly stated they will be held down for an extended period. The problem now is that if they rise too sharply, the banking system will be threatened at its weakest point (the eurozone) and the rise in borrowing costs for the eurozone itself will become unbearable. The fact that 10-year US Treasury yields have now nearly doubled to 3% indicates that on a true mark-to-market basis banks have already lost a lot of their capital.

For this reason alone, the central banks are likely to resist raising interest rates even in the face of rising price inflation. These developing conditions are uncannily similar to those that fuelled the great bull market for gold in the late 1970s.

Next Week

Markets are increasingly focusing on rising bond yields, so watch out for yet more signs of GDP recovery in the major economies. This being the case, bonds will struggle to go better, and gold and silver should begin to reflect their safe-haven characteristics in the coming weeks.

Monday: Japan: Consumer Confidence, M2 Money Supply, Economy Watchers Survey. France: BoF Business Sentiment. US: Consumer Credit.

Tuesday: France: Industrial & Manufacturing Production. China: Money Supply M2.

Wednesday: UK: Average Earnings. US: Wholesale Inventories. Japan: Key Machinery Orders.

Thursday: Eurozone: Industrial Production. US Import Price Index, Initial Claims, Budget Deficit.

Friday: Japan: Capacity Utilisation. Eurozone: Trade Balance. US: PPI, Retail Sales, Business Inventories.