From the beginning of 2017, we have witnessed a very unusual correlation developing in financial markets which dismissed all the previous theories. Generally, when equity markets rally, precious metals tend to slide as there are better fund-flows in equity than these metals as financial conditions and returns are better expected in equity than gold and silver. Investors remain more optimistic about the future and so they invest more and more, rather than keeping their fund aside as cash or in safe assets.
But this time, as you have noticed already, Dow Jones has been rallied from 17450 to 20900 levels which a nearly a 20% rally, since the US elections, which was fueled by Trumponomics. The market anticipated that more fiscal spending and tax cuts would eventually lead US to a stronger growth and bigger profits for US corporations.
But since 16 December, 2016, after FED hike, on which gold and silver plunged to their respective lows (i.e 1123/oz and 15.68$/oz) of, 2016, they started climbing back. In starting it looked like a minor correction or mild short covering but as they kept on climbing (gold 1250$/oz, silver 18.22$/oz on 23 Feb, 2017), which is a more than 11% rise in gold and 16% rise in silver), now it’s started to look threatening. Only in Feb 2017, Dow Jones has been rallied to 20900 from 19700 levels, gold has climbed to 1250$ from 1209$ levels and silver has reached to 18.22$ from 17.22$ levels. So this precious metal rally has dismissed all previous theories of equity and safe asset correlation.
So what went wrong?
In our view, investors were not prepared for such a strong rally in equity markets in a very short period of time. They are worried that equity markets have gone too far in a short time span and that also without any concrete information from the White House, making equities very risky and unpredictable. This rally is also not backed by fundamentals and only based upon speculations which make it very vulnerable in the near future and that’s why financial uncertainty has risen and equities are looking extremely overbought.
So asset managers, who were keeping their funds aside around US elections and were waiting for some information about Mr. Trump’s future plans then wanted to invest, they are still sidelined and parking their fund in these precious metals. Also, hedge funds, which took short positions in equities anticipating Trump’s win and equity falls also caught off guard and didn’t know when to exit. First, they waited for elections result, then they expected for equity slides when Mr. Trump took office. But the market kept on rallying irrespective of what happened so they had to minimize their risk exposure by either squaring their positions or hedge them in precious metals.
So what future holds for these two metals?
This recent equity market rally is looking based upon short covering rather than fresh buying; it may come down or maybe not in near future. You cannot pinpoint a top is these type of situations. But if Trump is able to provide some of his future plans and after that FED hike the interest rate in March meeting, then these metals will slide again, threatening to wipe out all post-election losses.
On technical grounds, gold is reaching towards its strong resistance zone around 1300$/oz levels, which will be very hard to crack without seeing a significant correction. So it can rally to 1300$ levels in next week as Trump will meet with Congress but after that FED’s hike speculation will take ground, which can restart gold –selling.
And for silver, it’s also reaching to a strong weekly resistance zone around 18.65$ levels which will be very favorable levels to play on the short side with an excellent risk reward. If it turns out as expected, first support will come around 17.82$ levels and if it doesn’t hold then be ready for a deeper fall to 16.20$ levels.
So both gold and silver need a 3% rally from current levels to reach these resistance levels which is more than possible. Let’s see how things turn out.