In the Lead – Continuing Commodities’ Conundrum

by Jon Nadler, Kitco Metals Inc. on May 24, 2011 · 0 comments

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Bullion BarsTuesday’s sun shone brighter on commodities for a change, as a dip in the US dollar and several other constructive background factors conspired to lift the complex towards higher value ground. The resurfacing of the "extended period" language in the comments made late on Monday by St. Louis Fed President Bullard emboldened the players whose continued profiteering in commodities depends precisely on such an "extension" of the near-zero interest rate environment brought to them courtesy of the US central bank. They hope to see that situation persist even after the expiration of QE2 in five weeks’ time.

Mr. Bullard also remarked that the Fed ought to widen the scope of its inflation-gauging to include additional components beyond just the so-called "core" metrics. Finally, the St. Louis Fed chief also warned that commodity prices cannot continue to increase "forever" albeit he was not so sure about the energy supply/demand paradigm not tilting into a larger deficit as we go forward. Picking up on that theme, both Goldman Sachs and Morgan Stanley hiked their crude oil price forecasts by more than 20% while also giving copper and zinc a favorable nod in coming months.

Some of this GS and MS-originated optimism flies in the face of recent CFTC data that revealed a sizeable reduction (11%) in the net-long positions by money managers in commodity futures. In fact, such positions were at their lowest since last July as of May 17th. As regards net-long positions in precious metals as of the same reporting period, the CFTC data also shows a shrinking in their size. Nearly 15,000 long positions in gold were cut by managed money traders and the size of the net-long positions in silver fell to its lowest level in two years.

The recent spike in the price of a whole host of commodities appears all the more difficult to account for when one takes into account the lack of certain events that would seriously disrupt oil production (yes, Mr. Gaddafi and his protracted departure from rule are largely irrelevant to global oil flows) or the output for agricultural commodities. The US Department of Agriculture in fact has offered a bullish forecast for wheat; but only in terms of its production, which appears set to rise by 22 million tonnes to 670 million in the current year.

As with other commodities (see silver, for example), the underlying supply/demand fundamentals fail to explain swings on the order of double-digits in the price of one or another item that makes up the complex. The only rational explanation for such a phenomenon continues to be the vast pool of liquidity still present in the global market bathtub. Thus, notwithstanding the near-8% correction seen this month in the Thomson Reuters-Jeffries Commodities Index, the metric shows a roughly 30 percent gains since August of last year.

However, perceptions that central banks (at least certain ones) have begun the process of draining the kiddy pool of liquidity in which a very good time has been had by one and all commodity player continue to offer cause for concern. The euro this morning went in the opposite direction of its former course (one that was a result of recently resurfaced debt crisis apprehensions) and it rose as anticipation that the ECB will once again hike interest rates in June took over sentiment and dominated trading patterns.

Against this background, precious metals trading opened on a firmer note on Tuesday in New York. Gold added about $5 in the initial minutes of trading and it rose to $1,522.00 per ounce. Silver outperformed once again, gaining more than 2% and adding 76 cents to last night’s closing values with a rise to the $35.83 level on the bid-side. Platinum reversed Monday’s losses with a climb of $11 to the $1,760.00 mark per ounce, while palladium gained $5 to touch the $733.00 per ounce price quote. Rhodium was unchanged at $1,880.00 per troy ounce.

Market analysis issued late on Monday by the Elliott Wave-based team of observers notes that gold appears to be in the process of the "quick pop" we mentioned last week that is offering the potential to lift it as high as $1540/45 prior to resuming the downtrend that may have begun with the fall from its May 2nd high at $1,577.60 per ounce. One is advised to keep an eye on the possible breach of the $1,471.40 level on the downside; a point which might usher in additional selling in the yellow metal.

As for silver, the so-called "sideways meander" that began on or around May 12 is still presenting the white metal with a chance of rising back to as high an area as the $39 to $43 value zone before it too resumes the larger declining pattern that could take it down to at least the just-sub-$30 level. The pivot point to watch at this moment would be $36.50 – a point which, if taken out, could usher in the rise to the aforementioned $40+ zone. Breaking last week’s $32.98 low however would imply the opposite scenario.

Speaking of scenarios, the one recently offered by Marketwatch’s Paul B. Farrell sounds rather disturbing but it appears to have been "validated" by a former administration official. It turns out that David Stockman, former director of the US’ OMB under then President Reagan, wrote a NY Times op-ed piece last fall, in which he flat-out asserted that the GOP (the Republican Party) "destroyed the US economy." While not sparing the Democrats from certain criticisms either, Mr. Stockman singled out the legacy of "Reaganomics" as the principal culprit for what ails the USA at the moment and he predicts an "American Apocalypse" as a result of certain economic decisions that the GOP has made since the days of the Reagan presidency.

In fact, Mr. Stockman goes a bit further back in time and skewers Richard Nixon for starting the process of America living beyond its means and for breaking the dollar-gold link in 1971. Milton Friedman and his advice to "spend, baby, spend," are also nailed with iron spikes by Mr. Stockman. Such huge spending sprees have led to the "utter failure of spending control" and have also resulted in money becoming the swing factor in America’s electoral process. The appetite for war, tax cuts for the uber-wealthy, and "crony capitalism" are just a few of the "top ten" agents that are shaping the "American Drama" that Mr. Farrell is obsessing about these days.

In a way, reading about the fact that more than 50% of Americans are in an "financially fragile" paradigm in which they do not know where, or how, they might raise $2,000 (!) in 30 days for unforeseen emergency expenditures, comes a little of a surprise in such an environment. It might just be a reflection of how their own government has come to operate in the post-Reagan era. But, don’t feel too bad; the UK and Germany are both in the same boat when it comes to their denizens’ capacity to come up with emergency funds.

Score one for the "Great White North" on this one, however. Only 28% of Canada’s residents believe they cannot come up with the dough inside of one month. And then (who would have guessed?) there’s Italy; only one fifth of persons polled felt they could not raise the emergency cash. So much for the myth of "La Dolce Vita" of "carefree" Italian living. It is more like "La Prudent Vita."

Until tomorrow,

Jon Nadler
Senior Analyst

Kitco Metals Inc.
North America

www.kitco.com and www.kitco.cn
Blog: http://www.kitco.com/ind/index.html#nadler

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