Macro: Sandcastle economics
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Gold gains on its immunity to the coronavirus
Ole Hansen
Head of Commodity Strategy
Summary: Gold stays bid as renewed stock market weakness and further spreading of the coronavirus continue to negatively impact markets and the economic outlook
Precious metals stay bid in response to a continued collapse in global bond yields and worries that the stock market rout is not over yet. This as the real economic impact of disrupted global supply lines have only just started to be felt. Another worry is the risk that the U.S., the world’s biggest economy, due to what looks like a broken healthcare system and an unhealthy working culture could be on the cusp of a major outbreak of the new coronavirus.
The debasement currently being undertaken by central banks, led by the US Federal Reserve, has pushed U.S. 10-year real yields to a -0.50%, a seven-year low. A very importantly development for gold which does not offer a yield.
The emergency rate cut from the U.S. Federal Reserve on Monday to 1.25% is, according to market expectations, likely to be followed by another 50 bp cut at the regular FOMC meeting on March 18. So far the low point stands at 0.35% which could be reached before the November U.S. elections.
The elevated speculative position held by funds has raised some concerns about a sharp correction should volatility spike again like it did last week. When volatility spikes funds targeting a certain level of volatility in their portfolio are forced to reduce exposure across the board. This development hit gold last week when the Cboe VIX jumped to 40% (currently 37%).
Spiking volatility aside some concerns has also been raised about the sustainability of a near record long. It reached 285,000 lots in the week to February 25, before the mentioned VIX spike undoubtedly took some length out of the market. However, looking at the length relatively to the size of the cake, i.e. the open interest, we find the position not yet elevated compared with levels reached during the past 12 years.
Spot gold is currently heading for the highest daily close in seven years above $1660/oz. With another 50bp rate cut already priced in the prospect for additional gains depend on continued safe-haven demand. With this in mind the U.S. stock market performance hold the key to further gains.
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