Gold drops as China hikes interest rates

Good Morning,

For the first time in three years the People’s Bank of China decided that the pace at which domestic inflation has been running is sufficiently unacceptable to warrant an interest rate hike. Thus, the central bank increased its one-year deposit rate to 2.5% (a quarter-point adjustment) and raised its lending rate to 5.56% after learning that the country’s inflation rate rose to 3.5% in August.

Analysts welcomed the rate increases, noting that as the global recovery has taken hold China remained somewhat laggard in commencing the exit process from the low interest rate environment despite its quite robust pace of economic growth.

Other China watchers pointed to the fact that the rate hike may also have certain additional ‘ulterior’ motives, mainly intended to curb the speculation that has become all too obvious in the country’s real estate niche. China is planning to phase in a trial property tax in particular white-hot urban markets and it has asked lenders to cease making loans to people seeking to buy a…third home. Finally, a requirement that demands a 30 percent down payment from all first-time homebuyers was also extended in this ‘adjustment’ process.

The US dollar gained broadly following the Chinese interest rate move as currency market pundits inferred that some sort of back-room deal by which China will gradually allow the yuan to float higher while the US does not quite rush to push the ‘QE’ button in the manner that markets have anticipated.

At any rate, the anticipated easing by the Fed could in fact add to China’s inflation problem as it could give rise to additional rivers of capital flowing into China (as well as some other emerging markets’ economies). This, even as the country’s reserves have already ballooned to the $2.65 trillion level in September, following the largest increase in same on record.

Treasury Secretary Geithner gave credence to such speculation by resorting to the ‘strong dollar’ phrasing at a time when everyone is convinced of the opposite. Mr. Geithner stated that the US will not engage in a strategy of dollar devaluation. Speaking on a panel in Palo Alto, California, Mr. Geithner noted that various countries cannot resort to currency devaluation in order to keep their economies afloat and/or growing and that the US does not see the dollar’s reserve currency status as going away.

The dollar’s 0.64 pop in the wake of the Chinese and Geithner-originated fallout dented precious metals values across the board as the markets opened for Tuesday’s trading. Spot gold bullion opened with a $14.40 loss per ounce, and a quote on the bid side at $1,355.20 as the dollar’s rise took some $8 off the value table and about an equal amount of damage ($6) arose out of physical selling by profit-takers.

Later in the session, and still within the first hour of trading, gold’s losses aggravated and the yellow metal experienced a $35 drop to just under $1,335.00 per ounce while silver fell by 93 cents the ounce to touch the $23.45 mark. This, while the US dollar did not really achieve additional gains on the index. Chalk it up to ‘overdue’ shaking out of weak latecomers. In so many words, the one quarter-point hike in a distant land was sufficient to give no quarter to the ultra-smug longs who have been blowing so much hot air nito these markets for the past month…

The yellow metal could still be poised to test the lower end of the so-called ‘shooting star’ formation that Barclays analysts opined was forming recently. That figure would bring the $1,327.00 number into focus. Analyst Phil Streible of Lind-Waldock opined that $1,400 per ounce gold might be a “long way off” if in fact the Fed ‘eases’ into QE on a one-small-slice-at-a-time basis and disappoints the markets which have been all too eager to price in an all-in dive by the central bank.

Elliott Wave analysis tenders the opinion that last Thursday’s $1,387.65 peak was the ‘high water mark in gold.’ Although gold has not witnessed two consecutive down days since September the 9th and bullish sentiment readings were recently clustering around 96 and 95 percent levels. EW opines that a convincing break of the $1,357 zone and then the $1,325-27 area could signal the start of a ‘sustained decline’ even as the possibility of $1,400 gold remains on the radar for the time being.

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