One Quarter = No Quarter

For the first time in three years the People's Bank of China decided that the pace at which domestic inflation is has been running is sufficiently unacceptable to warrant an interest rate hike. Thus, the central bank increased its one-year deposit rate to 2.5% (a quarter-point adjustment) and raised its lending rate to 5.56% after learning that the country's inflation rate rose to 3.5% in August.

Analysts welcomed the rate increases, noting that as the global recovery has taken hold China remained somewhat laggard in commencing the exit process from the low interest rate environment despite its quite robust pace of economic growth.

Other China watchers pointed to the fact that the rate hike may also have certain additional "ulterior" motives, mainly intended to curb the speculation that has become all too obvious in the country's real estate niche. China is planning to phase in a trial property tax in particular white-hot urban markets and it has asked lenders to cease making loans to people seeking to buy a...third home. Finally, a requirement that demands a 30% down payment from all first-time homebuyers was also extended in this "adjustment" process.

The US dollar gained broadly following the Chinese interest rate move as currency market pundits inferred that some sort of US-Chinese "back-room deal" has been made/is being made by which a) China will gradually allow the yuan to float higher while b) the US does not quite "rush" to push the "QE" button in the "big" manner that the markets have anticipated.

US Treasury Secretary Geithner gave credence to such speculation by suddenly resorting to the "strong dollar" phrasing at a time when everyone is convinced of the opposite. Mr. Geithner stated that the US will not engage in a strategy of dollar devaluation. Speaking on a panel in Palo Alto, California, Mr. Geithner noted that various countries cannot resort to currency devaluation in order to keep their economies afloat and/or growing and that the US does not see the dollar's reserve currency status as going away.

At any rate, the much-anticipated easing by the Fed could in fact add to China's inflation problem as it could give rise to additional rivers of capital flowing into China (as well as some other emerging markets' economies). This, even as the country's reserves have already ballooned to the $2.65 trillion level in September, following the largest increase in same on record.

The dollar's 0.64 pop in the wake of the Chinese and Geithner-originated fallout dented precious metals values across the board as the markets opened for Tuesday's trading. Spot gold bullion opened with a $14.40 loss per ounce, and a quote on the bid side at $1,355.20 as the dollar's rise took some $8 off the value table and about an equal amount of damage ($6) arose out of physical selling by profit-takers.

Later in the session, and still within the first hour of trading, gold's losses aggravated and the yellow metal experienced a $35 drop to just under $1,335.00 per ounce while silver fell by 93 cents the ounce to touch the $23.45 mark. This, while the US dollar did not really achieve additional gains on the index. Chalk it up to 'overdue' shaking out of weak latecomers. In so many words, the one quarter-point hike in a distant land was sufficient to give no quarter to the ultra-smug longs who have been blowing so much hot air into these markets for the past month...

The yellow metal could still be poised to test the lower end of the so-called "shooting star" formation that Barclays analysts opined was forming recently. That figure would bring the $1,327.00 number into focus. Analyst Phil Streible of Lind-Waldock opined that $1,400 per ounce gold might be a "long way off" if in fact the Fed "eases" into QE on a one-small-slice-at-a-time basis and disappoints the markets which have been all too eager to price in an all-in dive by the central bank.

Elliott Wave analysis tenders the opinion that last Thursday's $1,387.65 peak was the "high water mark in gold." Although gold has not witnessed two consecutive down days since September the 9th and bullish sentiment readings were recently clustering around 96 and 95 percent levels. EW opines that a convincing break of the $1,357 zone and then the $1,325-27 area could signal the start of a "sustained decline" even as the possibility of $1,400 gold remains on the radar for the time being.

Silver prices opened with a $0.44 loss per ounce, quoted at $23.94 and were broadly following the remainder of the complex to lower levels. China's silver shipments may decline as much as 40 percent for the year as a combination of decent local demand and a revocation of export rebates in place since late 2008 could divert production into local users' hands.

The country's silver output has been gaining at an average of 14.9% annually, for the past twenty years. GFMS analysts believe that after having rallied 44% and outperforming gold in the process, silver prices could be nearing a top near $25.50 possibly, and that the current range in prices might see support emerging at near the $20.50 per ounce level.

Platinum and palladium also eased at the opening bell this morning, as the former shed $12.00 to start at the $1,677.00 level and the latter dropped by an equal amount to open at $574.00 the ounce. Rhodium continued steady with a $2,250.00 per ounce bid quote. UBS AG raised its palladium forecast for 2011 to an average price of $625.00 the ounce following what it expects to be a virtually certain round of easing to be announced at the Fed's November meeting.

In the background, the US dollar climbed to 77.70 on the trade-weighted index while crude oil slipped fairly hard, losing $1.16 to a quote of $81.92 per barrel amid growing inventory apprehensions and the fallout from the aforementioned stronger greenback.

The surprise gain in US housing starts noted this morning also added to the selling pressure in the metals complex as perceptions that the vital real estate sector may in fact be stabilizing even after the removal of government-originated "sweeteners" took some confidence away from the "QE-must-be" crowd this morning.

Over in Germany, investor confidence fell for the sixth month in a row and it touched a 21-month nadir. The ZEW Institute noted that this month's fall in the confidence index was smaller than that recorded in September; however it also said that the drop underscores expectations of a sluggish economic growth pace for Germany among investors.

Part of what is playing into such downbeat expectations is the recent surge in the value of the euro. Germany remains the world's second largest exporter, and is expected to be shipping out some 1.3 trillion dollar's worth of goods this year.

Speaking of this year, many are casting a watchful eye on Indian gold demand as festival season is in full swing and the calendar is counting down the approach of Nov. 5 and Diwali - the auspicious day on which to pick up some bullion. Provided one can afford it, that is. The surge in gold values that the speculative funds in the West have precipitated has effectively removed gold from the average consumer's shopping list in India. The wealthy can afford to buy baubles no matter the price, but the question remains if their offtake will be sufficient to offset the slump in buying among the less fortunate.

The level if Indian jewellery demand in 2010 is down about 30% and dealers in the southern part of India report drops of as much as 40%. No wonder, when the local prices are hovering near 20,000 rupees per ten grams. Historically, about 60% of the country's physical bullion demand comes from smaller towns and rural areas and gold sales experience their peak in the October-November timeframe.

The period from November 2 to November 6 is shaping up as a potentially gut-wrenching and mind-exhausting one for market participants of all types. Drama is sure not to be lacking in the markets with so many impact factors converging in a rare "alignment" at that time. For now, we will have to contend with today's drama. Equally compelling to watch, perhaps not so compelling to be caught up in.

Until tomorrow.

Jon Nadler is senior analyst with Kitco Bullion Dealers in Montreal.

About the Author
Jon Nadler Jon Nadler is a Senior Analyst at Kitco Metals Inc. North America
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