Damaged Gold/Stocks Ratio, Yen Next?
Gold's safe haven allure takes a beating as Cyprus seeks to raise about € 400 mln in gold sales to fill the €13 bn portion of its total financial needs for the next 3 years. The rest of the € 13 bn will be from raising corporate taxes and doubling capital gains tax. Gold breaks through our 1525 target laid out in this Feb 28 piece
Gold/ S&P500 ratio hits a 3-year low, losing 42% from the 2011 highs.
Expect repetitive testing of the $1525 support, before extending losses to 1440.
Falling gold may well be blamed on growing signals from Federal Reserve officials considering slowing down the pace of asset purchases from its current $85 bn/month. But the metal selloff is also joining a broad decline in commodities this year. Out of a group of 18 commodities (metals, energy and agriculture), only 5 are up (WTI, gasoline, natural gas, palladium and cotton).
The “China cooling” factor had been an issue, as seen in slowing economic growth, business diffusion indices and the 2-month decline in copper prices. Forced selling by commodities' funds was also major factor in dragging down gold as fund managers sought to absorb losses in other markets. Hedge funds losing from the 20-30% declines in Apple shares were also among those selling some of their gold holdings to stabilize portfolio losses.
Increased confidence by investors that the ECB would do what it takes to save the Eurozone and its currency is highlighted in persistent declines in the bond yields of peripheral nations (Spanish 10-year yields have hit 2.5 year lows and Italian 10-yr yields are down 12% since the election stand-off of late February). Thus, the threat of an exit by a Eurozone member has markedly diminished. This was clearly seen in gold's muted reaction to Cyprus announcement to tax bank deposits.
Comparing gold to stocks, the situation is of serious concern to gold bugs. Using the gold/S&P500 ratio, it has fallen below 1.0 for the first time in 3 years. The ratio is down 40% from its 23-year peak of August 2011. This is the longest decline since mid-1990s.
Even as most market participants expect the Fed's hesitations over QE continuity to not materialize into an actual reduction in asset purchases before year-end, the negative impact of these Fed discussions is weighing more on gold than on equities.
With our expectations for further selling in gold partly emerging on renewed fund selling to stabilize portfolio losses from the next stocks, or escalating rhetoric from hawkish Fed members, the road to $1,500/oz appears set. It would take an S&P500 decline of about 4% to reach the next key support of 1527-28 in order to attempt reversing the Gold/SPX ratio back to 1.0. But that would be insufficient. As symbolic as the Gold/Stocks ratio may appear to some, the 40% decline of the past 6 months is more than just symbolic, and so is the fact that it has fallen for 6 consecutive months, the longest series of declines in 22 years.
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