PRC Tightening Worries Hit Gold Again

It wasn't just the gold price that was hit by looming bank-lending restrictions, either: both the Hang Seng and Shanghai indices were down about 2% last night. As for gold, a run-up that started last evening, and took the price up to about $1,102, was aborted just after 8 PM ET. The price fell back to about $1,096 by about midnight. The slump resumed at that time, and continued until $1090 was reached before 5 AM ET. Then, the metal drifted in a tight trading range, broken briefly on the downside, which lasted until 7 AM ET when the price dropped to its daily low of $1,087.80. The $1090 support level held then: another test of it, right after 8 AM ET, saw the metal bounce down to about $1,088.50. A slight recovery to the $1090 level didn't last, though; the metal was pushed down to $1,085.40 as of 8:30 AM.

As in the recent past, PRC woes benefitted the greenback. After hitting a weekly low of 78.083 yesterday evening, the U.S. Dollar Index rallied strongly last night. The rally continued early this morning, though less steeply, until a pull-back hit which lasted from 3 to 4:30 AM ET. The rally then resumed, pushing the Index to 78.553 as of about 7:20 AM. The rising dollar did its part to pull gold down, but the Kitco Gold Index attributed the drop as of 8:30 mostly to "predominant selling." At the same time, the Index recovered to above 78.5.

A Reuters report attributes the fall to the PRC's bank-lending restriction push: "China's central bank told banks that need to raise reserve ratios to implement the change on Tuesday, banking sources said." Since this isn't new news, the market's reaction last night and today suggests that the ratio-increase announcement wasn't fully assimilated by the markets at the time. Also in the report is a note about the lack of safe-haven demand for gold right now:

Gold might typically be expected to benefit at times of rising risk aversion as investors buy the metal as a haven, as happened a year ago while the financial crisis raged.

However, if risk aversion is rising but still manageable, the benefits to the dollar -- strength in which weighs on gold -- generally puts gold prices under pressure.

"(Gold's) risk-averse qualities were hardly noticeable during the latest sell-off in equities, with bullion trading against the dollar as anything else in your average commodity basket," said VTB Capital analyst Andrey Kryuchenkov in a note

Neither he nor they say it outright, but "still manageable" dovetails with "consistent with lower inflation/greenback upvaulation in the foreseeable future." I know there are goldbugs who insist that gold does well in deflation, but the only records we have of real and sustained deflation are from the days of the gold standard. It's just as easy to argue that a gold rise was discounting a future devaluation back in those days. The only fiat-money data we have are from disinflationary periods, during which gold has typically suffered.

A Bloomberg report carries this quote from Dennis Gartman:

“Given the pressure put upon the commodity markets generally by a strong dollar, it shall be hard for gold to hold itself erect,” Dennis Gartman, a Suffolk, Virginia-based economist and hedge-fund manager, told clients in his Gartman Letter today. Some investors may sell the metal because “capital can be raised to meet demands in other markets from gold,” he said.

That factor - a liquidation trade to free up funds to cover other losses - is one that hasn't been mentioned of late. Given that gold rallied strongly last year, and was pushed down hard in the '08 crisis but not in March of '09, it could be argued that it was pushed down much more strongly by a much larger liquidation trade back in the summer and fall of '08.

The spot gold to GLD ratio - what I've been calling "the gold at a discount indicator," even though I did not find it useful for personal-finance purposes - closed at 10.22 yesterday. In other words, at market's close, the price of an ounce of gold itself was 10.22 times the price of one share of GLD. That close put physical gold at a slightly higher premium to a GLD share than on Friday. This ratio, to remind, is presented as an item of reader interest. Yesterday, there was no veering towards an extreme one way or the other.

As of 9:04 AM ET, the greenback rally has resumed, pushing the Index to a daily high of. 78.575. Gold's decline has not. The 8:30 AM drop was only slightly recovered from, and the price turned back down to the $1,085 level fifteen minutes later. As of the time of this post, however, spot gold is slightly above that level at $1,086.40.