The major market averages finished down slightly after problematic economic reports caused the market to gap down at the open. These reports caused gold silver to break below the lows of their respective long-term bases. This is the first time since the uptrend in gold began in 2001 that gold has broken below a critical low. The core PPI came in at -0.6% which could have spooked the precious metals markets as deflationary worries set in, adding to fears caused by talk of Cyprus selling its gold to facilitate its bailout requirements. While Cyprus' gold holdings amount to a speck compared to the holdings of other European countries, the fear is that other countries like Italy, Spain or Portugal could be forced into selling their own gold at some point. As well, extreme monetary policy in Japan has caused a movement of money into European debt and U.S. Treasuries, and this puts counter-pressure on commodities.
Business inventories were also only up 0.1% which could be an indication that businesses are paring back on their spending. The US also announced they will be taking 7 years to give Germany back their gold even though the US allegedly has in excess of 6,900 tons of gold stockpiled. This seems to be a reflection of the hoarding of physical gold as creditor nations such as China buy gold and sell US treasurys.
The action in gold leading up to Friday's plunge underscores the important of price/volume action in any vehicle. News accounts and fundamentals have favored higher prices in gold. Quantitative easing is firing on all cylinders across a number of major central banks around the world, with the Bank of Japan jumping on board in a highly aggressive manner, especially when considering their print run is almost at the same level at the U.S. print run, yet Japan as the third leading world economy, lags well behind U.S. GDP. Further, central banks bought $3 billion worth of gold in the first two months of 2013, and the fear trade in gold should have contributed as North Korea threatened to fire nuclear missiles at U.S. targets. But price/volume action in gold has said otherwise. Often second and third order effects are present that cause price/volume action to behave in the manner it does, but most all fail to account for second and third order effects simply because it is nearly an impossible task to do at all times in all situations.
With Bill Gross's bullish call on 10-year and shorter duration U.S. treasurys, money could be flowing out of gold and into bonds, as we mentioned above. Potential manipulation of the dollar by the Fed to push it higher also could contribute to weakness in gold. Further, gold's downtrend has attracted an increasing number of short sellers. In the premarket, gold is gapping down 6%. So, in summary, possible reasons for plummeting precious metals prices include:
1) Economic data just out of China fell short of expectations. China exerts demand on gold but with a weaker economy, their demand for the metal may be diminished.
2) Goldman Sachs' lowered their price estimate on gold.
3) Gold’s tumble has largely been blamed on potential central-bank sales of gold to plug up fiscal shortfalls. For example, the ECB pressured Cyprus to sell its excess gold reserves to help fund the bailout. Investors are rattled by this as the fear is this that central bank selling of gold could become a trend. This fear has overridden the gold/quantitative easing relationship where weak economic readings spur expectations of more QE thus higher gold prices.
4) Movement of money into European and U.S. Treasury bonds and out of silver and gold, purchases of which are often financed by shorting European and U.S.debt, thus a possible unwinding of such positions can also contribute to the decline in the metals.
The breakdown in the precious metals has been accompanied by a breakdown in other commodities, such as crude oil, and it remains to be seen whether selling in these key commodity areas, which have gained popularity as "stocks" with advent of ETFs pegged to the prices of these commodities, will lead to selling in stock themselves. On its face, the dive in the metals may be hinting as something else that is not quite right, and so investors should be cautious here. While the major market indexes have moved higher, some shifts under the surface have become apparent as big-cap stocks, utilities, and consumer staples had begun to lead the market while the small-cap Russell 2000 index, the "risk-on" trade that has led this market rally since January, begins to lag.