Following an egregious daily rout, gold took investors for a wild ride Wednesday, and you can expect more where that came from.
After extending losses all the way down to ~$1,865, the yellow metal mounted a comeback, rebounding some $84 from the lows hit in Asia to rise as much as 2%.
Only the cruel market gods know what the rest of the day (and week) holds. “With long-time investors and tourists alike descending on the metal, recent action is unlikely to be the end of volatility”, Bloomberg’s Kristine Aquino dryly noted.
There’s no mystery about what’s going on here. A notoriously mania-prone “asset” became absurdly overbought even as the underlying, longer-term investment thesis remained sound. Then, one of its fundamental drivers went into reverse.
“Real rates drive gold”, Kevin Muir, former head of equity derivatives at RBC Dominion said flatly. “[The] relentless move lower in real yields was the main driving force propelling gold higher over the past couple of months. 10-year real yields declined more than 50 basis points during this period”, he added, in a postmortem following gold’s worst daily plunge in seven years.
The three-day back-up in real rates in the US tipped the gold rally over. In many respects, it’s as simple as it was predictable.
“Why did real yields choose the past couple of days to finally back up?”, Muir went on to ask, in the same piece.
He then cited a “combination of factors” that will be familiar to those who keep themselves apprised of the narrative. “A higher than expected refunding announcement probably started the move, then, good news on the vaccine front helped it along”, Muir wrote. “And finally, higher than expected [PPI] numbers caused nominal bonds to get slammed, which unfortunately also dragged real yields higher”.
As noted here repeatedly on Tuesday, the case for gold remains largely intact. But after a parabolic move, it’s vulnerable almost by definition.
So, when you get a reversal in one of the fundamental drivers behind the rally, it’s likely to see outsized selloffs.
ING underscored the point. “A [back-up] in US Treasury yields also saw real yields rebound, which weighed on gold”, the bank said Tuesday evening, adding that “optimism over possible tax relief, further economic stimulus in the US, positive economic data elsewhere and news of a Russian COVID-19 vaccine appears to have prompted investors to pull money from safe havens”.
ETF holdings of gold fell a third straight day Tuesday, ING notes.
Where things go from here is anyone’s guess. There’s obviously no shortage of news flow for those seeking to justify a bullish case based on monetary and fiscal largesse. RBNZ upped QE overnight and reiterated that negative rates are likely in the cards, for example.
But in the near-term, nothing goes up forever.
“10-year US Treasurys are now back up to 0.65%, which makes holding everything else that much less attractive, including gold, which was supposed to be showing us that inflation was everywhere ahead (not just in assets) and that the USD was over”, Rabobank’s Michael Every remarked on Wednesday. “Yes, being below $1,900 and not above $2,000 is just a small detail in a far bigger picture, but it does underline that nothing is rock solid day-to-day – even metal”.