I NOSTRI EVENTI
Unstoppable QE exit undermines gold and silver
Tuesday 17th September '13
UNSTOPPABLE QE EXIT UNDERMINES GOLD AND SILVER
Summary
- The downside risk to gold increases as the possibility of a political settlement in Syria and improving job market conditions prevent delaying a QE exit.
- Implied volatility of gold since its April price plunge remains elevated. At a 10% premium to equities, gold remains vulnerable to the stimulus withdrawal. Equities’ low volatility signals macro risks are manageable.
- Silver’s high correlation to gold implies macro uncertainties continue to overwhelm its fundamentals. Silver remains a leveraged bet on gold.
- Investors who share this sentiment may consider the following short positions on gold and silver.
- Boost Gold 3x Short Daily ETP (3GOS)
- Boost Silver 3x Short Daily ETP (3SIS)
The risks to gold and silver are on the downside with the Fed likely to taper QE this month. A diplomatic solution in Syria and improving labour market conditions are driving these downside expectations. The wide implied volatility spread between gold and equities means the fears of a QE exit and the Syria crisis are overdone (see chart above). Against subdued risks perceived in equities, growth and stability are expected to prevail. Silver’s excessive volatility and high correlation to gold means the macro uncertainties affecting gold continue to overwhelm silver’s fundamentals. Investors who share this view may consider buying the Boost Gold 3x Short Daily ETP (3GOS) or the Boost Silver 3x Short Daily ETP (3SIS).
Gold’s summer rebound was built around event risks that would delay the QE exit
Gold and silver fell sharply on the news that US initial jobless claims dropped to 292K, extending the precious metals’ losses this month. Levels below 300K were last seen during 2005 to 2007, a period marked by strong US economic performance. This, together with the prospect of the US refraining from a military strike against Syria is keeping the Fed’s phased in stimulus withdrawal on track. Leading up to these events were disappointing August US payroll numbers that, combined with a higher probability of war in Syria, had the potential to delay a QE exit. Amplifying the geopolitical uncertainty in the Middle East has been the unrest in Egypt this summer, which has driven crude oil prices higher. Amidst the geopolitical risks and prices coming off from low levels, gold has failed to stage a convincing comeback this summer, especially in light of oil’s strong performance over the same period. While gold rose 13% from the start of July to the end of August, it merely recovered what it lost in June. As gold has plunged 5% this month, WTI crude oil has continued to do well, rising 17% since June and steadying at 108 USD/BBL this month.
Gold’s elevated volatility is derived from the likelihood of losing QE support
While the prevailing macro uncertainties have halted the rally in equities, the downward price corrections across major stock markets seen this summer were modest. Hovering at 15%, implied volatility on the S&P 500 is low and, similar to US jobless claims’ numbers seen this month, such levels are typically observed in periods of solid economic and equity market performance. On the other hand, with large price swings in gold driving implied volatilities to well above 20%, gold has become a far riskier asset to hold than equities. Given that the wide volatility spread of gold over equities started at the onset of the gold’s price crash in April, well ahead of the unrest in Egypt and the escalating crisis in Syria, and has stayed elevated since, underscores the extent to which QE has been gold’s main, if not sole driver of support.
Starting this month, the consensus view is a USD 10bn reduction of monthly purchases of US Treasury bonds, to bring the total monthly stimulus down to USD 75bn. If September marks the beginning of the Fed bringing down over USD1 trillion in annual monetary stimulus to zero, gold, and by extension silver, look vulnerable to further corrections lower.