Bullion Weekly

October 24, 2011 - Provided by Bullion Weekly from www.thebulliondesk.com

Last Week

• Gold started the week in a positive tone when markets reacted positively to the outcome of the weekend's G20 meeting – finance ministers and central bankers from the 20 biggest economies told EU leaders they expected them to "decisively address the current challenges through a comprehensive plan" by the time of the next EU summit. Gold tested just above $1,695 per ounce around the time of the morning gold fix; however, this would prove to be the week's high after policymakers in Germany warned that there would be no quick fix and that the debt crisis would extend well into next year.
• Market reaction to the comments from Germany together with weaker-than-estimated third-quarter growth data from China prompted another round of risk aversion, leading equities lower and weighing on gold while traders and investors looked to bolster liquidity levels. Initial support in gold was around $1,670 but it extended lower on Tuesday, breaking below $1,650 to reach $1,627.
• Bargain-hunting and good volumes of physical buying helped lifted gold back above $1,650; however, the metal remained overhung by technical selling, which eventually pressured it to a two-week low of $1,603.50 during Thursday's US session.
• A combination of end-of-week short-covering and euro strength, amid expectations of stronger rhetoric from the EU summit, helped gold regain some ground on Friday. It closed the week around $1,642.50, down around 2.3 percent. Silver posted a similar 2.7-percent decline, having traded between $29.93 and $32.65.
• Data from the Central Bank of Russia showed official holdings of gold increased a further 6.2 tonnes during September to total 852.2 tonnes.
• Physical premiums for gold into India picked up to around $3-4 last week as festival-related purchases increased ahead of Diwali.

The Week Ahead

The focus this week will be on Wednesday's EU summit – EU politicians have promised to produce a "solid and durable solution" by then. The markets are trying to gauge the odds that such an aim will be realised.

News that the EU must agree on three separate issues – bank recapitalisation, EFSF leverage and a Greek haircut – has increased the probability of them devising a comprehensive band aid rather than a comprehensive package. This runs the risk of disappointing the markets, which want a line drawn beneath the crisis.

Markets will also watching for the release of US third-quarter GDP growth. Traders are looking for a sizable increase in growth after the second-quarter figure was hurt by disruptions to global supply chains after the earthquake in Japan in March.

A good deal of other US data is due, which could help to create a clearer picture of US growth for investors. In the euro area, Germany will report on consumer confidence and the French will report on consumer spending.

FOCUS – Ratios suggest gold on a par with Dow/Oil

Gold has struggled in recent sessions, weighed down by stale liquidation – lingering doubts and concerns over European leaders' abilities to contain the burgeoning debt issues have led to concerns over capital market liquidity.

While the Euribor-OIS spread is off last month's high of 89 basis points, the spread widened over last week to its highest in a fortnight as institutions become reluctant to lend to each other. The peak on September 23 was the widest since March 2009.

The fact the spread has not run rampantly higher reflects lasting efforts by EU and global financial leaders to curtail debt problems among the PIIGS and prevent contagion to the rest of the world.

But the simple fact the spread has widened reflects market concerns not just of debt levels but also of the problems caused by further downgrades at both the sovereign and institutional levels, with recent reports from Standard & Poor's suggesting that in one scenario France would lose its triple-A crown should low growth levels lead to a double-dip recession.

Given the current resistance gold is facing and worries that the markets are reflecting, gold seems likely to face further price pressure in the short-to-medium term because of cash generation. But it is not just gold that faces this threat – a broad-based rout is likely if markets become spooked.

Despite its recent lack of upside momentum, it is worth looking at how gold compares with other sectors. The chart above shows the Gold/Dow and Gold/Oil ratios.

Against the Dow, the ratio has turned higher in recent weeks and gold is overvalued relative to equities but this reflects the current macroeconomic and fiscal situation; the desire for safe-haven assets could lead to a retest over the next 12-24 months of the historical 1:1 low set briefly in 1980.

The gold/oil ratio is currently at a relatively neutral level having eased back from above 20:1, which is viewed as an overbought gold/undervalued oil indicator. The trend is still to the upside, though, which reflects rising demand for gold as an inflation hedge to offset the effects of loose monetary policy, historically low interest rates and QE.

Technical Analysis – Gold

Gold failed to close above the primary up trendline last week and the stochastics were unable to sustain a cross higher. So we moved to a neutral stance from neutralnegative. This week the metal has run higher before encountering resistance from the primary down trendline at $1,661.

The stochastics and RSI are still neutral but have upside potential. The metal has pierced back above the 5 WMA but has resistance from the 20 WMA. We are now looking for a material break over $1,661 to open up a run towards trendline resistance at $1,707.

A close above $1,707 would increase the probability of further gains but a close below $1,661 will raise the chance of another run down to $1,603-$1,563 (40 WMA). We are therefore neutral in the short term but looking for a breakout. We are neutral in the medium term and bullish in the long term.

Technical Analysis – Silver

Silver closed negatively last week, forming a negative tweezer top formation. This week it opened lower but has support from the 5 WMA.

Silver found support from the 61.8% Fibo last week and was able to pare some losses and return to its recent trading range. The stochastics failed to cross higher last week but still have bullish potential while the RSI is neutral.

The metal has support from the 61.8% Fibo at $29.99 and the top of the long-term up channel at $28.85. Resistance is seen at $32.40 (DTL), $33.78 (50%) and $33.87 (UTL).

We are neutral in the short term and would only alter this on a break and close above $32.40, at which point we would cite $33.78 (50%) and $33.87 as upside targets. Conversely, we would turn negative on a close below $29.99 and would cite $28.85-$27.40-$26.06. We are neutral in the medium term and positive in the long term.

Market Drivers

Conclusion

Bullion prices are consolidating and, given the uncertainty surrounding the markets, this is perhaps not surprising. The uncertainty could attract further safe-haven buying, which could happen at any time, but there may also be another 'dash for cash' if the EU debt situation deteriorates, which could see bullion liquidated again.

That said, we feel gold and silver have already suffered a hefty liquidation sell-off – one needs only to look at the drop in the funds' net long positions for evidence of that. We would be inclined to believe that those still holding long positions are those who are in it for the long term.

If confidence in the financial markets deteriorates again or if central banks are seen to create more debt to solve the current debt situation, we would not be surprised if gold and silver once again attract safe-haven buying.

If prices do sell off again, we would expect solid scale-down buying.

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