Gold And Precious Metals Are The Place To Be

London (Aug 8)  2016 has been one hell of a year for precious metals bulls. Over the first seven months of the year, volatility has gripped all asset classes. Stock prices fell by 11.5% over the first six weeks, the dollar has traded in a range that is closer to recent highs than May 2014 lows, and commodity prices have been all over the map, the one consistent theme has been an emerging bull market in gold, silver, platinum and palladium.

Most precious metals traded to new all-time highs between 2008 and 2011, and then a bear market took hold of these shiny metals. Gold dropped from over $1,920 per ounce to $1,045. Silver moved from just shy of $50 to under $14 per ounce. Platinum, which traded at highs of almost $2,310 in 2008, fell to $812 in early 2016. Palladium had reached its peak in 2001 at $1,084 per ounce.

All four of the major precious metals that trade on COMEX and NYMEX futures exchanges have appreciated in 2016. All signs tell us that precious metals are the place to be but one must be cautious as the lofty levels of these metals could cause some vicious corrections. However, if those corrections come, they will likely be opportunities to hop on board the precious metals freight train which is making a series of higher lows and higher highs.

Long-term momentum

Momentum is an important concept in markets that tend to adhere to the fundamental laws of physics. Sir Isaac Newton's first law of motion states, " A body at rest will remain at rest, and a body in motion will remain in motion unless it is acted upon by an external force." In 2016, precious metals prices have been in upward motion because of a variety of factors. The momentum of gold, silver, platinum and palladium are all higher when it comes to monthly price charts and statistic measures. All of these metals have broken out to the upside after a multi-year bear market period. These metals have moved from making lower highs and lower lows to exactly the opposite price patterns.   

The monthly gold chart highlights the bullish market action that commenced December 2015 when gold hit bottom at just above $1,046 per ounce. The slow stochastic is a statistical study that serves as a momentum indicator. The metric currently indicates a bullish path of least resistance and momentum for the price of gold.   

The monthly picture in silver illustrates positive price momentum in 2016 that has boosted silver from under $13.70 per ounce to the $20 level.  

In platinum, the monthly pictorial also displays positive price momentum since the precious metal traded to lows of $812 in early 2016 and is now around the $1,150 per ounce level.   

Finally, the monthly chart of the least actively traded precious metal, palladium, also shows positive momentum as the price of this metal has climbed from $451.50 in January to around $700 per ounce.

A critical technical factor that is supportive of more price gains in the precious metals sector is the increase in open interest in gold, silver and platinum. Open interest is the number of open long and short positions in these metals futures contracts. In the case of the three metals, open interest is at or close to all-time highs indicating massive interest in the metals. An increase in interest in the futures market is indicative of similar patterns in the physical and other derivative markets for these metals. In the case of palladium, open interest has been rising since June but remains below all-time highs.

Momentum in precious metals continues to be higher. These metals are traditionally a haven for capital that seeks safety from uncertain market conditions. There is a historical inverse correlation between precious metals prices and the dollar which is the reserve currency of the world. While the dollar remains closer to the highs since May 2014 than the lows, strong precious metals prices represent a historical divergence from norms. However, there also is an inverse correlation between these metals and interest rates, and there is no deviation in that regard.

Interest rates support higher prices

Since the global financial crisis of 2008, central banks around the world employed monetary policies to stimulate economic conditions by encouraging borrowing and spending and inhibiting saving. Quantitative easing (QE) or central bank purchases of sovereign and in some cases corporate debt issues and low short-term interest rates have dominated monetary policy around the world. These policies result in more cash or liquidity in the global economy.

In Europe and Japan, rates have descended into negative territory. It costs money to put money on deposit in a bank on a short- and medium-term basis these days. In China, the government has pushed interest rates lower and devalued the yuan to stimulate economic conditions. The U.S. economy has exhibited moderate growth since the period of QE ended in 2014. The Federal Reserve hiked the short-term Fed Funds rate for the first time in nine years last December, promising 3-4 more rate increases in 2016. However, a confluence of events including weaker than expected U.S. economic growth, the fear of contagion from other weak economies around the world and political issues stemming from the British referendum vote to exit the European Union and upcoming contentious Presidential election in the U.S. have resulted in no change in monetary policy so far in 2016.

At the latest meeting of the Federal Open Market Committee in July, the Fed told markets that the short-term Fed Funds would remain at the 25-50 basis point level. With no meeting scheduled for August, this means that eight months will pass without the Fed keeping their promise to hike rates in 2016. The central bank would have to increase the Fed Funds rate in each of the remaining months of the year to keep their promise from December 2015. However, this is not likely given weak GDP numbers, a continuation of a weak global economic landscape and the upcoming November election. If the central bank hikes rates at all in 2016, that move will come in December but that also is not looking likely given the latest economic data. Last Friday's employment figures increased excitement for a September rate hike, but do not hold your breath. The Fed has proved over and over again that they are doves and prefer to maintain the status quo than to hike the Fed Funds rate any time soon.

Historically low interest rates are inherently bullish for the prices of precious metals. When fixed income instruments provide little or no yield or negative yields as is the case in Europe and Japan, precious metals become a lot more attractive assets. One of the arguments made by those who do not believe in holding gold, silver or other precious metals as stores of value is that they offer no yield. These days, the same applies to most fixed income vehicles. Additionally, the historically low level of interest rates has caused capital to move to equity markets which have become very expensive when it comes to price to earnings multiples.

Source: SeekingAlpha