Gentlemen, Start Your...Houses!

Trading action resumed on Tuesday with gains across the precious metals price boards. A sizeable drop in the US dollar on the trade-weighted index (off 0.46 to the 78.90 level) prompted by early concerns that US housing starts data to be released on Wednesday might reveal that not all is (yet) well in the pivotal American economic sector gave metals buyers the impetus to lift prices as the abbreviated trading week got underway.

The National Association of Home Builders index remained at a relatively weak level (16) for a third straight month, giving some traction to the malaise surrounding tomorrow's numbers. The US dollar was also under selling pressure today following the release of the New York Federal Reserve's survey of manufacturing activity. The Empire State survey shows a slight improvement in the current month; however it has missed the expectations of economists.

Also aiding the renewed wave of bullion purchases were lingering euro and European debt -centric investor apprehensions that came on the heels of the Brussels meeting of EC finance ministers. Fears that the difficult debt situation on display in the Old World will persist (despite recent successful bond auctions by Portugal and most recently by Spain as well) have evidently not been allayed just yet.

Thus, spot gold dealings opened with a $10.70 per ounce gain this morning, quoted at the $1,371.60 mark as fresh attempts at repairing recent price chart damage became manifest once again. The yellow metal has lost about 3.5% in value thus far in 2011. Still, as the calendar nears the Chinese New Year, physical demand from Asia is likely to lend near-term support and result in bargain-hunting sorties if/when prices do dip towards recently seen ($1,350-$1,360) lows.

Kitco News reports that on the technical side of the gold market, the "bulls have faded recently and prices last Friday produced a bearish weekly low close for February Comex futures. Prices are also in a three-week-old downtrend on the daily bar chart. A bearish head-and-shoulders top reversal pattern has also formed on the daily bar chart for February Comex gold. Gold market bulls do still have the overall longer-term technical advantage, but need to show fresh power soon to gain fresh upside near-term chart momentum."

Kitco News also reported recently that global gold mine output, according to Barclays (echoing GFMS consultants' Toronto presentation from last week), rose 2.4% year on year in the second half of 2010, lifting the interim estimate for yearly production to a record high of 2,652 metric tons. Gold mine output is now anticipated to grow by yet another 6.4% in the first half of 2011. "Peak gold" arguments will need to be shelved and iced down for yet another year in 2011.

Gold scrap supplies recorded a 22% year-on-year gain in the second half of 2010 (in concert with price gains to records in gold), and albeit they are projected to only show a possible 2% gain in the first half of the current year, GFMS feels that if/when gold were to touch prices near $1,500, that event could turn the scrap spigot on, and let secondary gold supplies flow liberally into the market once again. Something still not flowing very adequately into the gold market were orders by primary jewelry fabricators.

Such demand is seen as eroding once again in the first half of 2011. The Barclays/GFMS conclusions are the same as have been tendered in these columns for more than a year now. Namely, that the near cessation of the mine gold de-hedging patterns of the past half a decade, and the huge decline in jewelry fabrication demand (behold demand destruction in earnest) during the same period, makes it a "must" for investment-related demand to not only continue but to rise beyond its recent, breathless pace, just to keep prices at present levels.

The maintenance of such levels may have gotten to be a tad more difficult over recent days as hedge funds have apparently reduced their bullish bets on further rallies in the yellow metal to the lowest level since the summer of 2009. Following a decade-long rise in the precious metal, that may not come as a "shocker" to most. Net longs numbered 114,236 contracts as of January 11th. However, the apparent (incipient) exodus by what Prospector Asset Management's veteran market observer Leonard Kaplan calls "the big boys" might also be more than just profit-taking after what has been quite a harvest of gains.

The shift in global interest rate expectations (as well as actual rate hikes in parts of the world) underway in the wake of the global economic rebound may be playing a larger than accounted-for role in the reduction of such bullish bets. Many a fund player is focusing on what the interest rate environment may look like after the first half of 2011. Apparently, not as many as previously are of the opinion that "more of the same" is inevitably on tap. Holdings in global gold-oriented ETP products have fallen by 37 tonnes since their peak (at 2115 tonnes) on Dec. 20.

Silver opened with a half-dollar per ounce rise and traded at the $28.82 level this morning, with buyers motivated by largely the same concerns that drove gold values higher. Speaking of silver supplies (as well as gold's) Fidelity Investor's Jim Lowell recently noted in a Hard Assets Investor interview that: "In neither metal is there a supply problem. Wherever you are trading a commodity that has had multiple significant run-ups year-over-year, without any supply problems, you've got to really zero in on the psychology of demand. So I think both metals head south sometime this year, I think probably sooner rather than later."

As for platinum and palladium, they quickly recaptured the round figures at $1,800 and $800 with sizeable gains of their own this morning. The former rose $16 to the $1,818.00 mark and the latter climbed $12 to reach $804.00 per ounce. In addition to intense ETF-originated "attention" and a recovering global auto sector, the noble metals' buyers are eyeing recent JP Morgan and RBC Capital warnings about potential output problems in South Africa. The country is responsible for 75% of the global platinum supply and 40% of that of palladium, not to mention the lion's share (85%) of the world's rhodium output. Power supply issues and labor unrest continue to plague the South African PGM mining sector.

Unrest of another type (as in: food price-sparked riots) has flared up from Algeria to Tunisia, and from Haiti to Egypt. Nations such as Russia, China, India, and South Korea - to mention but a few - have been grappling with rising food costs and have unrolled plans to curb food exports, release tonnage from strategic stockpiles, or import sharply higher amounts of same. Currently benefiting from such alarming patterns (in addition to the aforementioned rolling-in-the-dough hedge funds) is the US farming sector. Its income may have risen to nearly $88 billion in 2010 - a new record.

Rising prices in another speculative activity-impacted commodity - crude oil - are once again raising questions about demand destruction and consumer protests. MF Global analysts remind us that this is not the summer of 2008, when consumers were better able to withstand $100 per barrel black gold price tags. In fact, the trend upon which crude oil prices have embarked of late (pointing towards $4 a gallon gasoline by summer) poses a potential threat to the emergent global economic recovery, in the opinion of some economists.

Economists will also have plenty of fodder for debate when they try to reconcile somewhat...differing pronouncements coming from within the Fed. Just yesterday, Philly Fed President Plosser noted that he has not shelved his leanings towards an interest rate hike (this very year), relatively high unemployment levels notwithstanding. Said Mr. Plosser: "it might be time for us to begin thinking about how do we begin to gradually take our foot off the accelerator." On the other hand, Mr. Plosser's St. Louis counterpart, Mr. Bullard remarked in a recent interview that "while the U.S. outlook has improved," he wants to "see more evidence before altering the Fed's plan to buy $600 billion in Treasuries through June."

Until tomorrow (which is well ahead of June),

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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