Precious metals have a long history as investment assets and stores of value. For thousands of years, people have hoarded gold and silver as assets. The tradition of wearing jewellery made of these metals is a deeply ingrained part of the human condition and specifically in a culture like ours. Today, demand for jewelry continues to drive a large percentage of annual precious metals production. Even in this segment buying patterns have changed as seen in the imports during key festival and marriage seasons in India that have shown a decrease. Demonetisation and the present generation favouring electronic gadgets over hard assets have been contributing to the fall in demand.
While gold and silver both have industrial applications, it is investment demand each year that determines the path of least resistance for their prices. Central banks continue to hold gold as part of their foreign exchange reserves, and they have been net buyers of the yellow metal over the past few years. Moreover, mining companies all over the world continue to explore for and extract all precious metals including gold, silver, platinum, palladium, and other platinum group metals from the crust of the earth. Some production is primary, meaning companies are in the sole business of mining and extraction of the metals. Other output comes as a by product of other mining for ores around the globe.
Precious metals prices are a lot higher these days than they were at the turn of the century. In 2011, gold reached an all-time nominal high of over $1900 per ounce, and silver reached almost $50 for only the second time in modern history. The prices of both metals fell precipitously until December 2015 when they found their most recent bottoms, and since then, they have been in recovery mode. At the beginning of this month, the prices of both metals were moving to the downside as silver led the bearish price action. Last week, both metals may have found significant bottoms.
Gold and silver have suffered from a December curse in 2015 and 2016. Each time the US Fed prepared to increase the short-term Fed Funds rate, the prices of the precious metals declined. The same thing occurred during the first half of December this year, as silver led gold to the downside.
However, in the immediate aftermath of the Fed's move to increase the rate by 25 basis points on December 13, in a sell-the-rumor-and-buy-the-fact reaction, silver took off to the upside, rising above the $16 per ounce level and gold followed.
Precious metals bounce on the Fed announcement
The Federal Reserve hiked its key rates by 25 basis points in the December meeting. However, Jerome Powel, who was elected as the Fed chair, is expected to not steer much from the current Fed policy. Moreover, the Fed kept its outlook for three rate increases next year.
Janet Yellen has been consistently transparent during her tenure at the head of the US central bank, and she prepared the markets for the 25-basis point rate hike, the third of the year, on December 13. Rate hikes tend to weigh on the prices of precious metals because they increase the cost of carrying long positions and inventories. The day before the latest rate increase, the prices of both gold and silver reached short-term lows.
The Bank of England and European Central Bank kept their key interest rates intact. This provided support to gold prices. However, on the face of rising rates in the dollar, the other central banks could also follow suit denting appeal for bullion.
Geopolitical risks have been on the rise. Last month, and in the whole of last year, tensions in the Korean peninsula saw bullion being favoured at times. North Korea launched a Hwasong-15 missile with improved technology that flew over Japan in a latest show of force. This led to an increase in gold prices, as investors flocked to safe-haven investments. But, it could not capitalize and push ahead. Financial market risks have largely vanished with most of the key economies doing well, and such risks have led to safe-haven buying in the past. The equity markets have been on a roll and the need for an alternative asset to it has diminished in 2016, one of the key reasons for poor inflows in the gold ETF's so far.
Online searches for "buy bitcoin" continue to far outstrip searches for "buy gold". More and more investors are viewing bitcoin as the new gold - a new way to store money outside the control of any government or company. The next "Big Short" is coming as hedge funds prepare to bet against bitcoin. The introduction of bitcoin futures contracts at major hedge funds will make it easier to bet on a decline in the popular digital currency. And as bitcoin surges, nobody cares that about $90 million was hacked from coins Tether and NiceHash. Meanwhile, validating a transaction can cost as much as $20, and the market is currently illiquid with more buyers than sellers. We feel once bitcoin contracts get launched, many hedge funds who have been on the sidelines could bet on the short side considering the stretched valuations for the digital currency.
Gold could trend higher in 2018 as real borrowing costs continue to be low in historical terms and fears of equity and bond market correction. And geo-political risks from North Korea and Middle East will continue to underpin prices. But, prices are unlikely to scale fresh highs in 2018 purely on geo-political risks. And therefore, upside could be limited to $1335 ( MCX: 29,700) or even higher to $1375 ( MCX: 30,450). But, if there is a credible geo-political risk then gold could rise as high as $1500 ( MCX: 36,000)
Silver is a magical metal that has made fortunes for some and sent others from riches to rags over centuries. Silver is cheap compared to platinum and gold when it comes to its nominal price. Considering that one can own an ounce of the metal for around $16.27 compared $1290 for gold, silver has played a role as the "poor" precious metal. However, when it comes to leverage, silver offers the best opportunity to make a killing as it tends to move the most on a percentage basis. Every potential reward in markets comes with risk, and silver has always been a highly risky proposition.
Silver can sit for long periods and trade within a narrowing range. Silver is like a rubber band, the more you pull and stretch, the more it hurts when it eventually snaps. However, when this metal gets going on the up or downside, few other commodities compete with the price volatility and trajectory of a move in the silver futures market. In the 1970s and through the 1980s, the price of silver moved from under $1.40 to over $50 per ounce. In 2001, the price was trading at close to the $4.00 level. In 2011, it rose to $49.82 per ounce. When silver gets going on the upside, few assets can compare, sans digital currencies.
Silver will likely continue to be a leader in the precious metals sector. Remember, the speculators will pile into silver before gold, and as we have seen over the second half of the year, silver's role as a barometer for the price of gold remains intact.
We expect very limited downside in Silver going into 2018, and more chances of a push towards $ 18.65 (MCX: 41,000) or even higher to $21 (MCX: 47,000).
Though it is difficult to say gold prices have decisively bottomed out in 2017, the chances of downside is limited and a modest decently upside can be expected in 2018 with the present factors at play. But, in case of silver prices, there is more to expect on the upside rather than downside.
Gnanasekar Thiagarajan is a Director at Commtrendz Research and a consultant to commodity bourses and corporations both in India and the overseas.
He has more than 20 years of experience in commodity and forex trading and was formerly a forex dealer with the Bank of Nova Scotia.
He can be reached at firstname.lastname@example.org.
**Investors are requested to consult their financial advisors before doing anything based on the above recommendations.
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