Gold sinks ahead of jobs report

After hitting a new high early in the day, prices pull back as investors lock in profits ahead of Friday's employment data.

By TheStreet Staff Oct 7, 2010 10:08AM

thestreetBy Alix Steel, TheStreet

 

Updated at 4:48 p.m. ET

 

Gold prices touched new highs Thursday morning before dropping double-digits, as investors cashed in on the metal's record-high prices ahead of Friday's jobs number.

 

Gold for December delivery settled $12.70 to $1,335 an ounce at the Comex division of the New York Mercantile Exchange. Gold traded as high as $1,366 and as low as $1,326.50 in today's session.

 

The U.S. dollar index was up 0.1% to $77.50, while the euro was down slightly to $1.39 against the dollar. The spot gold price was falling by $13, according to Kitco's gold index.

 

Stocks ended the day with mixed results. The Dow Jones Industrial Average ($INDU) closed down 19 points to 10,949, and the S&P 500 ($INX) lost 2 points to 1,157. The Nasdaq ($COMPX) gained 3 points to finish at 2,382.

 

Gold's rally of $47 this week had been triggered by a weaker dollar, which fell to new lows against the yen and an eight-month low against the euro. Prices lost a little bit of steam after initial jobless claims for last week fell 11,000 to 445,000 and then took a double-digit hit as investors seized on record highs to book profits.

 

"Traders are taking some money off the table for now," says George Gero, vice president of global futures at RBC Capital Markets. But most analysts expect a significant correction to be met with bargain-hunting.

On a fundamental level, with most investors thinking that quantitative easing round 2 is just around the corner from the Federal Reserve, gold is looking like the safest place to preserve one's wealth.

 

The one wild card is Friday's U.S. unemployment report. Analysts are looking for the private sector to have added 60,000 in September, but Wednesday's ADP report said the private sector shed 39,000 jobs in the same time frame.

 

"The jobs number, either positive or negative, is still going to be a dollar story and therefore that's the momentum that's driving gold," says Will Rhind, head of U.S. operations for ETF Securities. "I don't think (QE2) is totally baked into (the gold price) ... because we continually are getting information out of other foreign governments about monetary policy."

 

The International Monetary Fund has warned of a global currency war, and the issue will take center stage this weekend in Washington during the IMF/world bank leaders' annual meeting. Most governments, including Brazil, Switzerland and Vietnam, are taking steps to lower the value of their currencies in order to increase exports and jump-start their economies.

 

The most desperate has been Japan. Despite the country's $600 billion asset-purchase program, the yen is still hitting fresh highs, which might pressure the central bank to intervene even further in its currency market.

 

The Bank of England announced Thursday that it will hold key interest rates at record lows, but it made no changes to its $319 billion asset-purchase program. The central bank is reportedly leaving the door open for more stimulus.

 

The European Central Bank, on the other hand, has been firmly opposed to a bond purchase program to help the eurozone nations, but some obervers speculate that it may be forced to take some action. The ECB left its main interest rate unchanged at 1%.

 

The pressure is now mounting for China to let its currency rise in value, not only to keep other countries' exports competitive but also to increase purchasing power within China. Since China agreed to let the yuan appreciate in June, the currency is up only 2%.

 

U.S. Treasury Secretary Tim Geithner has indicated that China will be the main topic this weekend. The U.S. House of Representatives already voted to raise taxes on Chinese goods, and Geithner said in a speech Wednesday at the Brookings Institute that "countries overly reliant on exports to us for their own growth will need to change their policies."

 

All talk of weaker currencies is a green light for gold. As more paper money enters circulation, the threat of future inflation rises and the more valuable gold becomes as a safe place to put your money.

 

"For a high-growth developing economy," says Kieran Osborne, co-portfolio manager at Merk Mutual Funds, "the combination of an undervalued currency and increased production and labor costs can cause substantial domestic inflationary pressures."

 

An article in the Wall Street Journal quoted Chicago Fed President Charles Evans as saying, "If we could somehow get lower real interest rates so that the amount of excess savings that is taking place relative to investment needs is lowered, that would be one channel for stimulating the economy."

 

Negative real interest rates, the interest rate minus the inflation rate, are the backbone to higher gold prices. Experts predict the Federal Reserve might raise their inflation target which is currently 1.5%-2% and with key interest rates at 0-0.25%, the negative rate environment should continue to help gold prices.

 

Not all traders are subscribing to gold euphoria, however. Vedant Mimani, managing director at Atyant Capital, says "the USD is now extremely oversold. . . . And quantitative easing 2.0 is far from a done deal."

 

Mimani believes that the gold trade is overcrowded at the moment and he sees room for potential downside. "We are not looking for a massive correction, but a meaningful enough one to allow us a lower risk entry point in which to more safely build our positions."

 

Another factor that could weigh on gold prices is the announcement that AngloGold Ashanti (AU) has finally eliminated its hedge book of 3.22 million ounces.

 

Hedges allow a gold production company to sell product at a set price, which can guarantee a certain profit if gold prices fall. When the spot price soars, however, hedging seriously caps the company's earnings potential. Hedging has become an unpopular word in the gold mining industry as the metal’s price has surged.

 

For a company to eliminate hedges, it must buy gold. Although there are a slew of mining companies that must hedge to secure project financing, AngloGold was the last big strategic hedger, and the remaining companies are unlikely to buy back their hedges, instead just letting the contracts run their course.

 

The biggest hedger remaining is Avocet Mining, with just 12 tons of contracts as compared with AngloGold's 95 tons.

 

Jon Nadler, senior analyst at Kitco.com, sees a top in the gold market within a year and says if the gold market had "not had that de-hedging component ... we would be around $900 in gold (today)."

 

Silver prices plummeted 46 cents, or 2%, to settle at $22.38 per ounce, while copper closed down 7 cents at $3.68 per pound.

 

Gold mining stocks, a risky but sometimes more profitable way to buy gold, closed lower. Barrick Gold (ABX) fell 1.9% to $47.68, while Newmont Mining (NEM) dropped 2.6% to $63.03. Randgold Resources (GOLD) sank 3.7% to $101, and AngloGold Ashanti (AU) lost 2.2% to finish at $46.50.

 

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