The sell-off in gold last week was overdone but the current corrective phase offers tremendous buying opportunities
Last week was an extremely volatile week not only for gold, but for many other commodities as well. In the case of gold after recording another all-time high of $1578.20 on Monday, May 02, the price of the yellow metal fell sharply as traders took profits. From then on the prices continued to head south even though all the key fundamental issues driving the price of gold higher have not changed and don’t look set to change for some time to come.
While the market appeared a bit top heavy in the short-term and due for a minor correction, certain extraneous factors came into play which impacted on gold prices, in particular the sell-off in silver.
The sell-off in silver was induced by the The Chicago Mercantile Exchange (CME) the owners of Comex, when they raised the minimum margin requirements on the 5000 ounce silver futures contracts by an unprecedented three different times in one week! The net effect was an increase of nearly 40% in the funds traders must put up to open or maintain a futures position. Initial margins - the amount of cash - that traders must deposit for each contract increased to $14,513 a contract from $12,825. Then for the third time in a week, the exchange hiked margin requirements to $16,200 from $14,513. But, to make matters even worse, as of the end of business on Thursday, the initial margin of the main 5,000-ounce silver-futures contract increased again to $18,900 from $16,200. Then as of the close of business on Monday, May 09, the initial margin will rise further to $21,600. Margins are also rising for Comex MiNY silver futures and E-mini silver futures. A year ago the margin required for a 5000 ounce contract was less than $5000! But, what concerns me is the fact that the CME increased these margins in a falling market. How come they did not increase the margins as the prices increased?
This unprecedented increase in margin requirements together with a rebound in the US dollar together with the latest spate of economic data resulted in a broad based commodity sell-off which hit silver and crude oil the worst. The selloff then spread to other commodities including gold which broke through the $1500 psychological level and hit a low of $1470 an ounce. The price of crude oil broke $100 a barrel and the CRB commodity index posted the biggest weekly fall since 2008 as it dropped sharply from the prior week's high of 370.7 to close at 337.35 last week.
Later in the week the dollar staged a strong rally after the The ECB left the main refinancing rate at 1.25% and continued to gain against the euro, Swiss Franc and Yen after the Non-Farm Payroll report showed stronger than expected expansion in the job market. Private sector hiring, including a big jump in the retail sector, boosted overall nonfarm payrolls by 244,000, the largest increase in 11 months, the US Labour Department said Friday. Economists had expected a gain of only 186,000. However, the unemployment rate had the first increase since November and rose from 8.8% to 9.0%.
Later in the day, the US dollar received another boost against the euro when the German magazine Der Spiegel reported that a meeting was held on Friday about Greece exiting the Eurozone and wanting to readopt its own currency. Later, that was vigorously denied by both Greece and Germany. The euro hit a session low of $1.4454, down about 0.4% on the day. It was down about 2.3% this week, its worst week since January. Interestingly, as the dollar gained, the price of gold bounced off its lows.
By Monday, May 09, the price of gold was back above $1500 an ounce as market participants turned their focus back to the underlying fundamentals behind the gold price which include the sovereign debt crisis in the Eurozone, rising inflation around the world, and continued uncertainty in the Middle East.
As far as I am concerned last weeks’ sell-off was completely overdone. However, a correction was overdue with or without the help of the CME, but the market will soon recover its losses and we should see resumption in the upward trend. But, before this we may see a prolonged correction which will offer bargain prices for many astute traders and investors.
TECHNICAL ANALYSIS
Last weeks’ drop in gold prices has sent prices to within a fraction of the support level of a major upward trend line and the medium term indicator the 50 day MA. It also coincides with the 38.2% Fibonacci retracement level of the move from $1325 to $1575 which is set at $1480.
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