Gold – A review of 2018 and what to expect in 2019

Robin Bhar Head of Metals Research SocieteGenerale CIB

Summary

Gold prices remained under pressure in 2018 from a stronger US dollar and a lack of safe-haven buying, but a floor around $1,200/oz has emerged. The divergence in monetary policy between the US and the rest of the world, and the resulting strength in the USD, is keeping a lid on gold prices for now, but we suspect prices could start moving higher as the economic cycle matures and investors seek to diversify their portfolios out of equities and into safe-haven assets, such as bonds and gold. Our economists continue to expect monetary tightening to pause after June 2019 as the risk of a recession in the US, if only mild, causes the Fed to stop raising rates. While the physical market is likely to record yet another year of supply surplus, central bank buying, and producer de-hedging could help prices weather the market imbalance. Finally, given the significant speculative short position in the futures market, we continue to see a favourable risk-reward balance. We forecast gold prices to average $1,300/oz in twelve months and to average $1,275/oz for 2019.

Our moderately bullish outlook is premised mainly on the fact that managed money positioning is vulnerable to short covering (record short) and to the building up of currently low long positions. The main trigger for higher gold prices could come in the form of a gradual asset rotation from equities and other risky assets into bonds and safe-haven assets such as gold, as mainstream investors seek protection from market turbulences and growing bearish sentiment. Moreover, the downside is somewhat limited, with current gold prices representing a floor, as bearish drivers are lacking, and fundamentals are neutral. We perceive the current price as a floor that is reinforced by supply-side fundamentals, as miners’ all-in-sustaining costs are rising and getting closer to declining gold prices.

In 2018, we project total gold output to reach 4,145t (95t up from 2017), moving even higher to 4,160t in 2019. This jump comes from scrap supply, which is forecasted to increase by 135t (+11.2%) versus 2017, while mine supply is virtually flat. Two factors partially offset the supply increase. Producers are forecasted to de-hedge 50t, slightly more than last year, and central bank activity should be more negative (net purchases). Combined, these two bullish forecasts decrease 2018 supply only by 43t yoy, which is not enough to mitigate the bearish scrap supply.

Ignoring ETF flows, we forecast a 117t decrease in total demand in 2018 to 3,505t and modest rebound to 3,540t in 2019. Taken by itself, this has a neutral and possibly bearish influence on prices. Nevertheless, we project a quite stable physical demand, with jewellery and industrial demand representing a solid foundation. This stable demand should protect gold prices from a sharp decline.

Since the beginning of the year, the main fundamental driver of gold prices has shifted from real interest rate expectations towards USD relative strength. The world is currently experiencing a myriad of geopolitical and economic risks, including Middle East tensions, several European political issues, and the US position on global trade. We believe the influence on the gold price is asymmetric, and an escalation of tensions would have a more bullish effect than the bearish effect implied by an easing situation.

Over the next 12 months, appreciation of EM currencies, after their recent weakness, against USD is the biggest upside risk (+$140/oz), while Chinese retaliation to US tariffs through the FX market is the biggest downside risk (-$50/oz). Other upside risks to our outlook mainly relate to escalating tensions in the Middle East, weaker USD against EM currencies, slower US monetary tightening and European economic policy uncertainties. Other downside risks to our outlook mainly come from easing political tensions and increases in US real interest rates. We view the upside risks and downside risks to our base case forecasts as balanced.

Disclaimer: Views are personal and not the views of the publisher.