Gold Bubble Eliminated‏

We have for argued for some time that gold was in a bubble with prices well above where ‘fundamentals’ would suggest that prices would have to come down. The catalyst for the price drop in recent days has been speculation that Cyprus and other debt-ridden countries such as Portugal may be looking to sell their gold reserves. With the prospects of central banks joining investors in selling gold as it is recognised that the global liquidity boost will not be around forever, the backdrop for gold has thus deteriorated markedly. The past days' sell-off in gold has taken prices close to the USD1,300 level, which our model suggests is ‘fair’ at present (see chart below). The fact that the Bank of Japan has recently expanded its quantitative easing programme aggressively might also have reminded investors that deflation -- not the hyper-inflation scenario that gold could act as an insurance against -- rather remains the key worry.

The fact that deflation fears are still around also makes gold look less attractive and likely also holds the key as to why gold and cyclical commodities have become more closely correlated recently of late. The key thing to note is that an improving supply side for oil and notably copper of late has weighed on not least metal prices. This week data from the World Bureau of Metal Statistics (WBMS) revealed that copper recorded a surplus of 129,000 MT in Jan-Feb compared with a 67,000 MT deficit in the same period last year as mine supply has risen from the ashes in recent months. This is adding to evidence that the super-cycle is ebbing out. Clearly, the fact that Chinese growth data disappointed markedly on the downside this week did not help cyclical products either.

We have also argued that oil and base metals should move higher in Q2 on a stronger EUR/USD and an ongoing Chinese recovery -- after Monday's dismal data out of China the latter now appears to be a much less supportive factor. Notably, grains have not been sold off to near the extent seen in the cyclical energy and base-metals complexes, underlining that worries regarding the strength of the Chinese recovery have indeed been key. Add to this the evolving soft patch for the US economy and a weak euro zone, we now have a notably less upbeat growth cocktail for commodities. Still, our economists stress that the Chinese manufacturing PMIs and leading indicators so far do not suggest that China has entered a renewed phase of deceleration in GDP growth and still expect GDP growth to improve in Q2 13. Together with our call for EUR/USD to hit 1.33 in 3M this suggests that commodities will not fall (further) off a cliff.

Regarding the near-term outlook, we still believe that geopolitical risks have unjustifiably been priced out of oil (our models suggest the geopolitical risk premium is close to zero at present with fair-value around USD100 per barrel) and with the scene set for geopolitical risks to move back on the market, oil could be in a sustained move higher in coming months. In contrast, we have to acknowledge that base metals may still see a rather muted recovery as a wider restocking phase on behalf of manufacturers has yet to be ignited.

Thus we would generally recommend clients on the consumer side to use the recent price drops to lock in H2 2013 prices before a Q2 rebound.

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