Precious metals have been watching the dollar and interest rates over recent months, and they are getting conflicting signals. The dollar index tanked throughout 2017, and at the start of 2018, the selling continued. The recent rise in the price of precious metals from the middle of December has been a reflection of the diving value of the dollar against other world currencies, particularly the euro. On the other hand, precious metals tend to move lower when real interest rates rise, and the most recent selloff that ended in mid-December was likely the result of anticipation of the Fed’s move to raise the short-term Fed Funds rate for the third consecutive December. Higher rates increase the cost of carrying commodities positions, and since the forward curve in gold is, at least in part, a function of interest rates, higher rates caused selling during the first two weeks of the last month of 2017. Selling at the end of last week was the result of a break to the downside in bond prices.
As we move into the second month of the year, we are facing more volatility in the precious metals sector. Gold, the most liquid and closely watched precious metal recently reached a level that was a stone’s throw from a technical breakout to the upside, and while the price has corrected lower, we may see a new high in the yellow metal sooner rather than later this year.
Follow the bouncing dollar
We are currently at an odd time in markets. The dollar continues to trend to the downside, and interest rates are rising.
As the weekly chart of the U.S. dollar index highlights, the greenback has been trending lower since reaching a high of 103.815 in early January 2017. The index recently hit its lowest level since 2014 at 88.255 on January 25, the day that gold, silver, and platinum hit their highs. The inverse historical price relationship between the U.S. currency and precious metals prices had remained intact. Over recent sessions, the dollar has bounced back over the 89 level on the March futures contract, and that helped the precious metals sector correct from the highs.
One of the reasons for the bounce in the dollar, and decline in precious metals, has been that interest rates have moved higher.
As the chart of the U.S. 30-year bond shows, the bond fell through the level of critical technical resistance at the March 2017 lows of 147-07. On Friday, February the long bond traded down to a low of below the 145 level which is the lowest since 2015. Higher rates increase the cost of carrying precious metals, and other commodities positions and real rate increases tend to be bearish for commodities prices. However, if bonds are moving lower because of inflationary pressures in the U.S. and global economies, that could stoke further gains in the precious metals sector down the road.
Meanwhile, for the third consecutive year, precious metals had rallied in January, and the price of gold came very close to a test of technical resistance at the 2016 high.
Gold is close to a major break to the upside
After trading down to a low of $1,236.50 in mid-December, February gold futures rallied to highs of $1,265.40 on January 25 when the dollar was on its low. On the daily chart of the now active April COMEX futures contract, the yellow metal came even closer to a test of the critical resistance level and the highest price since March 2014.
As the daily chart illustrates, April gold futures got to a high of $1,370.50 on January 25, just $7 below the 2016 post-Brexit high for the yellow metal. The rally that took gold higher from mid-December until January 25 caused open interest to rise from 446,618 contracts on December 12 to a high of 597,952 contracts on January 24, an increase of 151,334 or almost 34% in six weeks. Rising price alongside increasing open interest trends to validate a bullish trend in a futures market. At the same time, April gold has declined from the January 25 high at $1,370.50 to around the $1,335 level at the end of last week, and open interest has dropped to 548,982 contracts. While it is likely that the metric declined through the February-April roll period of COMEX futures contracts, the decrease as the price corrected lower is not a technical validation of an emerging bearish trend in the gold market.
Gold and other precious metals are looking over their right shoulders and see a weak dollar which is bullish. However, when they peak over their left shoulders, they notice rising rates which was a reason to curb the bullish enthusiasm. Gold made great strides last month when it comes to establishing a base for a challenge of technical resistance at the 2016 high. The current selloff could turn out to be an opportunity for scale-down buying to position on the long side for the coming weeks and months.
Silver is biding its time before huge volatility returns
Gold typically does a good job respecting technical levels. When it comes to silver, the precious metal that displays the greatest degree of price variance at times loves to violate technical levels and confuse market participants as often as it can.
As the weekly silver chart displays, each time silver moved to the $17.30 to $17.50 level since September 2017, it ran into selling, and an area of price congestion developed. However, on January 25 the price of March COMEX silver futures rose above that band of selling to a high of $17.705, the highest level since mid-September. Technical resistance now stands at the high of $18.16 per ounce, the high from the week of September 5. Like gold, silver has pulled back and moved to a lower low of $16.635 per ounce on Friday, February 2.
Silver is watching the dollar and interest rates for guidance about its next move. Open interest at the 202,000-contract level has edged higher, but the metric has remained stable moving between 185,000 and 210,000 contracts since last May. Silver made a higher high and a lower low since January 25 which is a reflection of the metal’s disrespect for technical levels. Silver loves to stop out longs and shorts. After a period of calm waters, it seems that volatile waves are now back in the silver arena.
Platinum could be the big surprise for 2018
Platinum had lost its luster since 2014 when “rich man’s gold” slipped to a discount to the yellow metal in late 2014. In September 2017, platinum’s plight became even worse, when it moved below the price of palladium. However, since the middle of December, platinum had been a leader on the upside as the price recovered from under $900 per ounce to over the $1,000 level.
As the weekly chart shows, NYMEX platinum futures found a bottom in mid-December at $872.40 per ounce and rose to a high of $1,022.60 on January 25. Right before the rally that took the price higher for seven straight weeks, open interest moved from 78,704 contracts at the end of November to its current level at 93,766, which is an all-time high for the metric. It is likely that bargain hunting at the end of last year caused investment demand to increase. Rising open interest and price is a bullish sign for the path of least resistance of platinum.
Platinum was trading at just under the $1,000 per ounce level on the now active April futures contract on Friday, February 2. Technical resistance stands at just under the $1,050 level on the continuous contract chart. Platinum is still trading at a significant discount under gold and was $38 less expensive than palladium on February 2 making it a cheap precious metal on a historical basis.
Palladium already did its job; everything else is gravy
Palladium may have pulled back from its recent highs at $1,133 per ounce, but the precious metal had been on a bullish tear since January 2016 when the price found a bottom at $451.50 per ounce.
As the quarterly chart of NYMEX palladium futures shows, the price rose to a new all-time high at $1,133 on January 16. The price rose above the previous 2001 high at $1,090 in early January. Open interest moved higher with the price since 2016. Palladium hit a milestone this year already, and any further gains will just be gravy on top of the bullish trend. Technical support for palladium is at around the $1,000 per ounce level.
Precious metals got off to a bullish start this year, but now a weak dollar and rising rates create a problem for the sector. The world remains an uncertain place, and the geopolitical landscape continues to present issues that could trigger rallies in the sector. The trend in the dollar is lower, and if the ECB begins to tighten credit, it could send the greenback down towards the 80 level this year which would likely be supportive of precious metals prices. Finally, after a decade of accommodative monetary policies around the world, it is likely that we will see some inflationary pressures given the amount of liquidity that flooded the system over past years. I believe that any weakness in the sector will present buying opportunities in the gold, silver, and platinum markets. I continue to favor platinum because it offers the best value proposition in the sector.
Precious metals are currently correcting from recent highs, but the sector continues to offer opportunities for price appreciation in the weeks and months ahead for those with the patience and fortitude to gingerly buy on a scale-down basis.
- Follow the bouncing dollar, but rates matter too.
- Gold came close to a major break to the upside.
- Silver is biding its time before huge volatility returns.
- Platinum could be a surprise in 2018.
- Palladium already did its job; anything else is gravy.