The Limited Impact that Dollar Strength has on Gold Speaks Volumes

Gold and euro dollar

Source: Bloomberg; Saxo Bank

The increased risks and worries related to a potential surprise outcome of the French presidential elections can be seen in the way investors currently behave in the forex and bond market. Opinion polls are giving Marine Le Pen close to no chance of becoming the next president. The market, however, has become very skeptical of polls following recent experiences with the UK’s referendum and the election of Donald Trump in the US.

With polls narrowing in favour of Le Pen, the euro has come under pressure and Bloomberg reports that the cost of puts relative to calls are now the most expensive in two years. In the bond market the yield spread between 10-year French and German government bonds has risen to 0.81 percent, the widest since 2012.

Into this uncertainty we are continuing to see a pick-up in demand for alternative investments such as gold and silver. In January, it was increased uncertainty about the impact of the new administration in Washington that gave precious metals a boost. Since then, worries about Europe have added another layer of support and this has so far resulted in year-to-date gains for gold of 8% and 12.5% for silver.

 

Gold investments through futures and ETP

Source: Bloomberg; Saxo Bank

Investment demand from hedge funds in the futures market and investors using exchange-traded products have so far been relatively muted with the Federal Open Market Committee in tightening mode and universal expectations of a stronger dollar providing a headwind. The resilience seen especially in the last week, where the dollar strengthened, should provide some additional support but first a key technical level at $1,245/oz needs to be taken out.

Gold has settled into a range determined by the 38.2% and 50% retracement of the July to December sell-off. We maintain a bullish bias, with the market likely to target $1,278/oz on a break. Support remains firm at $1,220/oz, which also co-insides with trendline support from the December low.

 

Spot gold with retracement levels

Source: SaxoTraderGO

Silver has been the best performer on a relative basis with the XAUXAG ratio at 68.6, down from 72.4 at the beginning of the year. Hedge funds have been continuous buyers of silver for the past seven weeks and in the week ending February 14 it led to funds holding a bigger position in silver (70,746 lots) than gold (67,982 lots). On that basis we see a potential bigger upside to gold in the short term from a positioning perspective.

 

Speculative positioning in Gold amp; Silver

Source: Bloomberg; Saxo Bank

 

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