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Room for further upside in gold price, says HSBC

28 Oct 2009

Global hedge funds believe gold has room to gain since the consequences of inflation or currency depreciation have yet to manifest themselves,. However, a mitigating factor is the sharp fall in jewellery demand worldwide.

The price of gold may be close to record highs, but HSBC believes that there is room for further upside.

James Steel, HSBC’s precious metals analyst in New York, noted at a client conference call that gold prices had advanced in the last two years for several reasons: the gradual decline of the US dollar, an increase in fiscal spending, continued loose monetary policy and various stimulus plans.

Gold futures traded at US$1,038.60 an ounce at 1.30pm Hong Kong time on October 28. Spot gold touched an all-time high of US$1,070.80 an ounce on October 14.

But according to HSBC’s John Levin, director of precious metals trading and sales, many global hedge funds believe gold has room to gain. “They feel that [we are in] a very combustible environment at the moment,” he notes during the same call.

Hedge funds, he says, believe that the consequences of inflation or currency depreciation have yet to manifest themselves.

“You might think that the US dollar is weak at the moment, but a lot of these people are calling for much weaker dollars as a result of the Fed and US government policies and that will reverberate through the system. These investors feel that gold is the purest expression – it is intervention free and you’re not taking on any sort of sovereign risk.”

The daily volatility of gold does not faze investors either, says Levin. “I think they’re looking at the horizon and that monetary policies that have been enacted will take some time to play out. I’m not sensing any change in conviction at all.”

While some might feel that gold is expensive since it is near record highs, the commodity is still trading well below its all-time high of US$2,000 an ounce in inflation adjusted terms – reached when gold traded at US$850 an ounce in January 1980.

At the beginning of the crisis in mid-2007, gold acted as a safe haven, says Steel. At the beginning of this year up until the summer, the commodity was seen as an inflation hedge and is back in favour among investors as a hedge against the weak US dollar.

“We have seen the US dollar decline very sharply in the past three months, which [brings about] questions about the sustainability of the US dollar as the world’s principal reserve currency,” says Steel.

A rise in gold prices could also be because of supply and demand mechanics. Gold production is less than that of 2003 because of exhausted mines, lack of new projects and difficulty in finding human resources, says Steel. At the same time, many central banks globally have reduced their sale of gold in recent years.

But while there are factors to support increases in the gold price, the sharp fall in jewellery demand around the world could put pressure on the commodity’s rise.

“Since 70% of the gold demand is for jewellery, you have to be careful and keep an eye on this because it’s creating a lot of physical supply that can weigh on the market.”

28 Oct 2009