What's Driven Gold's Flier In 2014 And Can It Last?

Gold has raced out of the starting blocks this January going against the established trend. We take a look through charts at some of the main drivers behind the recent recovery and also question whether the rally has much further to go at this stage.

Gold together with silver, platinum and palladium are the surprise top-performing commodities so far this January. This reflects the counter-trend move which has also been seen in other asset such as JPY and bonds. Much has already been said about strong physical demand out of China and the prospect for a pick-up in Indian demand once import restrictions potentially are lifted later this year. But after having rallied by almost four percent since December, gold may now find further advances difficult to come by, not least due to the price-sensitive nature of physical demand which tends to taper off as the price rallies.

Bond yields: After reaching a peak at 3.03 percent on December 31, US ten-year bond yields have since eased off and dropped even further on Friday following the weaker-than-expected US jobs report. The drop in yields has reduced the inflation-adjusted return which plays into the hand of investments such as precious metals which does not pay a dividend or a coupon.

US stocks put in a very strong performance in 2013 and this was seen as another reason behind the sell-off in gold as investors saw no reason to hold alternative investments. The S&P 500 has seen the worst beginning to a new year since 2009 and has so far provided some support.

The protection of tail-end risks has been another reason for institutional and other investors for holding gold but with much of that risk in recent years focused on Europe, the continued contraction of credit spreads there has resulted in a much more benign risk environment and gold suffered as a consequence.

Another continued negative factor for gold has been the big reduction of holdings in Exchange Traded Products. The last four quarters have seen a major reduction primarily driven by those investors seeking other and potentially more profitable investment opportunities in other asset classes.

As gold fell, the negative momentum rose and this led to a much-reduced involvement by speculative investors such as hedge funds and other money managers in the futures market. At the end of December, they were holding the smallest net-long position since 2007 and with the pick-up in price during January, they have been forced to get more involved but signs are still that most of the increase has been driven by those closing outright short positions more than actual new buying.

So here we are. Gold has now spent a few days trading sideways ahead of important resistance above at 1,268 USD/oz. The current momentum may take it up towards 1,300 USD/oz if resistance is broken, but at the moment further upside seems limited unless we continue to see the outlook for the US economy deteriorate resulting in weaker stocks and lower bond yields.