The unexpectedly strong U.S. jobs report released Friday may have caused some traders sell gold that morning, but it can’t derail the broader rally in the precious metal.
Some holders of gold took advantage of a small window to sell on Friday, worried that the 287,000 new jobs added in the U.S. would send the greenback to new highs against other major currencies. But as traders digested the headline, it became clear that the jobs report wasn’t that strong. First, most of the jobs added were government hires. Second, including revisions to past nonfarm payroll reports, an average of 147,000 jobs were added in each of the past three months. Third — and most importantly — average hourly earnings are still not accelerating, and it’s likely that it will require some further increases in wages before the Federal Reserve raises interest rates.
The result was that the price of an ounce of gold traded down $30 in 45 minutes before recovering all the losses by Friday’s close. The $1,330-an-ounce level that serves as key support held.
What’s astounding about last week’s action was that for the week, the S&P 500 rallied 1.3%, the dollar gained 0.7%, yet gold closed up 1.7%.
On the back of Japanese Prime Minister Shinzo Abe’s victory in Sunday’s election, gold futures on Sunday night gapped open to new five-year highs of $1,376 an ounce. Then, as it seems there will be a new British prime minister (without a mandate) next week and a follow-through risk-on equity environment, gold traded down to $1,351 an ounce by the time stocks opened in New York on Monday morning.
The price volatility has done very little for implied volatilities of options, as the precious metal seems to be defining a new range of $1,345 to $1,365 an ounce, with blips on both ends. Thus, front-month implied volatility has moved back down to 17.4%, which is 2 percentage points below historic volatility. The volatility curve has become inverted. This is something we haven’t seen for a while. Three-month implied volatility is now greater than one-month implied volatility. The theta factor (the decline in the value of an option caused by the passage of time) during a possible lull in summer price movement may be contributing to this.
I will not pound the table about negative interest rates or about my conviction that we are headed for a banking and possibly a currency crisis in Europe. Such a crisis would be a great reason to own gold. Elsewhere, U.S. banks plan to report earnings this week, and even though U.S. Treasury yields didn’t take a dive until June, that decline should affect banks’ earnings outlooks.
We recommend sticking with the options trade recommendation we made Thursday. It involves options on the SPDR Gold Trust (GLD) , an exchange-traded fund that tracks the price of gold bullion. To review, we recommended buying one $130 call option that expires on Sept. 16 and selling two $140 call options with the same expiration. This trade is bullish in delta terms but is short implied volatility. The underlying ETF was trading at $129.50 when we recommended the trade on Thursday and is little changed at $129.29 right now.
On Monday afternoon, gold futures open interest was still grinding higher at 660,000 contracts. The SPDR Gold Trust and other gold ETFs added a significant 1.5 million ounces of gold last week. The ETF inflows during Friday’s wild ride were a significant 285,000 ounces, with the SPDR Gold Trust and the iShares Gold Trust(IAU) attracting most of them. The options on the SPDR Gold Trust were much more active than the options on Comex gold futures. There was both covered-call selling against underlying length and some out-of-the-money call buying.
For example, one hedge fund purchased 46,000 contracts (the equivalent of 4.6 million ounces of gold) of the June 2017 144/172 strike price bullish call spreads on the SPDR Gold Trust. The total premium that the hedge fund spent was $15 million. The premium spent was $3.26, which means the break-even price for the ETF is $147.26. That equates to a spot gold price of $1,545 an ounce by June 16, 2017. The Commitment of Traders report showed an uptick in net length of 1.8 million ounces to a new record through July 5, and 1.2 million ounces of that increase was fresh length.
Silver has now outperformed gold both on daily and year-to-date bases, which is probably not a bad thing for gold as well. Silver would normally outperform if global growth was showing a pickup. The catalyst recently seems to have been a pickup in Asian buying. The Chinese historically have been good sellers into silver rallies on the back of the huge byproduct production from gold, zinc and lead mines, but they have been accumulating silver. Both platinum and silver tend to be be more volatile than gold as shown by their respective recent 30-day historical volatilities, which are 21.2 and 28.6, respectively. But the platinum discount to gold is now $260, down from $345 a month ago, and the gold-silver ratio is now 67-1, down from the March record of 83-1. This shows broad participation in precious metals as a means of safe-haven portfolio diversification.
Elsewhere in commodities, copper and nickel rallied a bit on the lower-than-expected Chinese consumer price inflation number, which renews hopes that the Chinese central bank will have room to lower its required reserve ratio, a key tool of monetary policy. There have been large open interest increases on the Shanghai exchange in zinc, aluminum and nickel. Nickel is also getting a push through $10,000 per ton on news that Chinese steel inventories are at six-year lows.
The energy sector is still seeing some softness. Despite the expectation of warmer weather moving into the Northeast this week and injections being less than expectations, natural gas has fallen back. I am still bullish natural gas and will hold onto the $3 calendar call spread, buying September $3 calls and selling August $3 calls. (I recommended this trade on Thursday.) Crude oil seems to be consolidating around the $45 level, which is depressing volatility that was bid higher in the selloff last week. The Baker Hughes rig count, which was up 10 on Friday, is now up 35 since bottoming. Nigeria and Canadian production should be almost back to complete normalcy by end of July. The factor that continues to weigh on crude oil is the elevated gasoline inventories, which may not abate as we approach refinery maintenance.
Courtesy: Ben Cross
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