Friday Kitcommentary – The (Over)Heat Is On

by Jon Nadler, Kitco Metals Inc. on April 15, 2011 · 0 comments

Precious metals trading showed some indecision and a bit of nervousness during the first hour of dealings in New York this morning. Such patterns are not uncommon following fresh record achievements however.

Bullion BarsOn the other hand the boost that the greenback received from the economic data that is covered in the paragraphs below was undeniably on traders’ minds and could not be casually dismissed. Spot gold was quoted in the $1,470 to near $1,480 range while silver orbited in and around the $42.25 zone. Platinum and palladium retreated by about $5 each, and were last seen near $1,787 and $770 per troy ounce, respectively.

Friday morning’s market action was dominated by the release of important US economic data sets. The catalyst for Thursday’s pop in precious metals values had been the Labor Department’s finding that US initial jobless claims rose to 412,000 in the latest reporting week. While the figure does not indicate anything more than the level of volatility in the statistics commonly associated with the end of a calendar quarter, currency (dollar) and commodity (name any) speculators took the number and ran with it as if the Fed had all but declared "I give" and had set QE3 in motion as a result of same.

This morning however the statistical picture reflecting the US economy’s progress towards normalization offered a better showing. The New York area’s manufacturing gauge hit a one-year high and rose for a fifth consecutive month in April to reach 21.7 even as polled economists had feared a dip to the 15.5 level earlier. On the other hand, the expectation that consumer prices would rise 0.5% in March fell in line with market analysts’ previously made projections.

Core inflation remained quite subdued, coming in at 0.1% on the month. Since last October however, the 12-month core consumer price gauge has doubled, driven by headline-making spikes in energy and food costs. Should the upward trend not be tamed (read: if the Fed does nothing but declare that these are transitory phenomena) US firms might well react by curtailing hiring or by passing rising material and energy costs on to the end-users. Crude oil has risen 27 percent since mid-February and the excuses that Col. Gaddafi’s antics were responsible for such a price spiral have now worn to a thinness measured in microns.

Such was not the case in Europe and in Asia however. Eurozone inflation spiked higher than had been anticipated last month, to 2.7% year-on-year. The ECB has already attempted to jump ahead of that curve with its first interest rate hike since 2008. A further similar move is now expected for July. Over in China, the story remains very much the same as it has been for some time now; high growth, high inflation, and bubbles in everything from suburban tract homes to cemetery plots. Meanwhile, the third largest economy in Asia — India — experienced an 8.98 percent rate of inflation in March. Its central bank has raised interest rates more than half a dozen times over the past year.

The Chinese economy — as reported this very morning — has turned in a growth rate of 9.7% in Q1 and its CPI has risen by 5.4% in one year. The surprises in these numbers were both to the upside and place the onus on Premier Wen’s government to try to do something about them. While China is visibly upset with the Fed for ‘exporting’ inflation via its ultra-loose monetary policy, there is no arguing the fact that it too has had a $4 trillion stimulus package "on offer" since early 2009 when the global financial crisis was in full bloom and its leaders tried to keep growth from stalling out and creating social problems.

Now, the problem appears to be one of an opposite nature. China’s recent credit and asset bubbles pose a direct threat to its economic growth — good as it might be showing to be today — and the spiraling costs of food (fruit prices up 31% in one year for example) and fuel (gasoline at $4.50 today) risk the sparking of social upheaval. This is a difficult task for the Chinese government and one that might require a tad more than mere interest rate and bank reserve requirement upward adjustments.

Finance ministers and central bankers come together in DC later on today as the semi-annual tete-a-tete of the IMF and of the World Bank gets underway. Participants will be tackling the problem being posed by soaring energy prices, the Japanese quake’s after-effects, and the on-going PIIGS issued in Europe. While nobody at the meeting is expected to declare the global economic recovery as having suffered any fatal blows as a result of any of the above impact factors, the characterization that is likely to stick as the meeting unfolds reads rather…poetic;

"While occasional shocks are rocking the markets, the recovery keeps on rolling."

Well, the very week that brought us the Goldman Sachs warning that the risk of investing in commodities now outweighs the possible rewards also brought new records in the price of gold (the overnight high came in at $1,479.90) and had silver scaling new peaks near $43 an ounce. It has also been a week of relative turmoil in the commodity markets as the complex slumped by the largest amount in one month following the Goldman clarion call after having shown as much as a 16 percent rise in the S&P GSCI index of 24 raw materials in the year-to-date.

Topping it all off for the week (and, in the minds of some, actually indicating some kind of a sign of a top), is the year’s largest IPO; that of commodity trader Glencore (formerly Marc Rich & Co., but that would not sound as…imposing). The firm could be valued at as much as $60 billion while its partners have stated that they do not aim to do the IPO "right at the top of the cycle." Only time will tell. Business Week offers the disturbing thought that

"It’s as if 2008 never happened. Once again the world’s investors are pumping up bubbles that will probably explode in their faces. After the popping of a real estate bubble led to the first global recession since the 1930s, world markets are frothing like shaken Champagne."

Yale University’s Professor Robert Shiller has computed that, for example, the S&P 500 index is currently trading at 23x earnings normalized over the past 10 years — when its historical average is generally near 16x earnings. Such findings have prompted Doug Noland, of the Federated Prudent Bear Fund to warn that

"I fear this is the granddaddy of them all, an almost-encompassing bubble right at the heart of monetary systems."

For the sake of perspective, one might also note that the annual average gold price for the period extending from 1974 to 2009 is $387, while the same average is only $541 for the period from 2001 to 2009. Finally, the average price for the crisis period that engendered most of what we are reporting here today was $759 per ounce. As we go to print, the spot price is trading at 3.8x the 35-year average. Bloomberg Surveillance host Tom Keene noted this morning that it only took seven trading sessions in 1980 to undo the spectacular spike that took the yellow metal to its record of $845 back in mid-January of that epic year.

Back to G-20 blogging. Have a pleasant weekend.

Jon Nadler
Senior Analyst

Kitco Metals Inc.
North America and

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