Precious Metals Watch – How low can it go?

by: Georgette Boele

In this publication: Precious metal prices peaked in January and have fallen substantially since then. Higher US dollar, looming trade war between the US and China, downward adjustment in eurozone outlook and the slide in the Chinese yuan have contributed to price weakness. Weakness in precious metal prices is not over yet, but prices are close to the bottom.

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Introduction

In January, precious metal prices peaked. Since then they have fallen substantially by 9% (gold prices) to 20% (platinum prices). Precious metal prices are down between 4.5% (gold) to 11% (platinum) during this year so far. In recent weeks, the sell-off has accelerated. There are several reasons for this price weakness. First, a looming trade war between the US and China has weighed on prices, especially cyclical precious metals such as platinum and palladium. Second, the recovery of the US dollar is negative for all precious metal prices. Third, a downshift in expectations about the eurozone economy has been a negative for platinum prices.

Fourth, weakness in emerging markets has lowered all precious metal prices as well. More recently the substantial fall in the yuan has accelerated the decline in precious metal prices (see graphs above). Yuan weakness reflects the heightened trade tensions between the US and China and nervousness about Chinese corporate bond defaults. China is a crucial consumer of precious metals. So fears of lower Chinese demand are negative for prices.

Weakness in precious metal prices is not over yet…

In the near-term, weakness in precious metal prices may not be over yet. For a start, we expect the US dollar to rally a bit further on strong economic data and ongoing Fed rate hikes. We also expect 10y US Treasury yields to rise a bit further. This is negative for gold, silver and platinum prices as they have a high sensitivity towards these factors.

Moreover, the technical pictures of the different precious metal prices look negative. All precious metal prices are below their 200-day moving averages. Today, gold prices have tested the December 2017 low of just below USD 1,237 per ounce. It is likely that there will be another test. If prices break below this level, a revisit of the crucial support level at USD 1,200 per ounce is on the cards. Meanwhile, silver prices may revisit the December low close to USD 15.6 per ounce before stabilising. Today, platinum prices have tested the 2016 low. If this level is taken out, the low set around USD 744 per ounce during the Global Financial Crisis is in focus. Palladium prices could easily revisit USD 900 per ounce in our view.

In addition, trade tensions between the US and China will probably linger on and there may be more volatility in the Chinese yuan in the near term. These are also negatives for precious metal prices.

Finally, it is likely that concerns about Italy will return if Italy’s fiscal balance will get into focus again later in the summer. This will weigh on the euro but also on platinum prices as the eurozone is an important market for platinum

…but prices are close to the bottom

Later in the year, we expect the US dollar and 10y US Treasury yields to peak. This should support precious metal prices. We also expect US growth to peak in the fourth quarter of this year. This will support gold and silver prices but weigh on palladium prices. The US is a crucial market for palladium and palladium prices often move in tandem with US equity markets. Lower US growth could result in a downward adjustment in demand for palladium from the US.

Moreover, we expect the fall in the Chinese yuan to come to an end as Chinese authorities will probably intervene to calm sentiment. We find it hard to imagine the Chinese authorities letting the yuan drop in an uncontrolled manner. However, in the near-term, yuan weakness may yet continue. In addition, our base case scenario is that a significant escalation of the trade conflict is averted. This should support all precious metal prices.

In addition, net-long speculative positioning in precious metals is not excessive. The long positions in gold have been reduced substantially and short positions have risen somewhat resulting in a reduction in net-long gold positions. Net-long silver positions have risen considerably (up to last Tuesday close), but they are not excessive. In palladium, long positions have been cut back, but short positions have barely moved. This signals that investors are not willing to become negative on the palladium price outlook yet. Surprisingly, the net-positioning in platinum has dropped into negative territory meaning that the speculative community is net-short platinum. This is the largest net-short positioning since inception of the data.

We expect gold prices to bottom out between USD 1,200 and 1,250 per ounce and silver prices between USD 15.2 and 15.6 per ounce. We see these levels as an opportunity to position for higher gold and silver prices next year.  We think that platinum prices have overreacted and prices should bottom out close to USD 800 per ounce.  We remain the most negative on palladium prices. We think that investors are still too positive on the outlook for palladium prices. We expect prices will revisit the April low of USD 898 per ounce.