Gold trades lower as banks siphon dollars

In the Lead: “The Eagle Has Not Landed (In Certain Nests)”

Another day of sideways-to-lower price action was beginning to take shape in certain precious metals as banks continued to siphon US dollars ($50 billion since last week and counting) from the ECB amid the on-going liquidity crunch in Europe. The greenback climbed to 78.68 on the trade-weighted index while gold fell back to the $1,720 area in early Wednesday dealings.

Albeit the costs of dollar funding were eased with last week’s concerted central bank action, some financial institutions in the Eurozone still appear to have difficulties finding dollar funding. The situation places that much more pressure on the EU to come up with a grand solution or a conclusive set of proposals to mitigate the crisis when its two-day meeting ends before the weekend.

Monsieur Sarkozy promises a “powerful deal” to be the result of the aforementioned summit even as certain German officials expressed skepticism about the efficacy of such an eventual blueprint for financial peace in Europe. Such pessimism originates in the sheer number of required changes and to-be-implemented action items on various fronts by banks and Eurozone nations; there are simply too many of them for an instant paradigm shift to take place with just one stroke of one pen.

US Treasury Secretary Geither is on a pep talk tour of Europe and is hoping to see the “Merkozy” plan become reality. France’s President has quite a bit riding on the outcome of the meeting; France’s AAA rating among the items at risk.

Spot metals dealings opened with losses in all but palladium once again this morning. Gold dropped $9 to the $1,720.50 mark while silver declined 50 cents to $32.27 per ounce. Platinum fell $10 to the $1,512 bid level. Market participants are in the midst of the traditional year-end book-squaring/window-dressing/portfolio reshuffling frenzy and some will thus take some profitable gold chips off the table. Thus, apart from news headlines-induced counterintuitive rallies or sell-offs, the volatility that such year-end preparations bring about will be amply on display for a couple more weeks. Still, the current behavior of gold appears to have even the pros publicly declaring that they are a tad baffled.

Others are reluctant to unwind positions before the EU summit draws to a close and have been pinning gold rally hopes on a positive outcome from that gathering. For the time being, the yellow metal is thought to be confined to the $1,650-$1,750 channel, the top end of which has drawn out sellers from their bunkers and the bottom end of which might revive waning physical demand (esp. from India). While it may be too early to draw conclusions about the EU summit – and we won’t – there is one school of trading thought (over at DailyFX.com) that envisions the dollar resuming its uptrend in the wake of what could be a let-down of a summit in terms the amount of ‘comprehensive solutions’ it might offer.

DailyFX’s currency strategist Ilya Spivak opines that “On balance, the stage seems set for disappointment. A joint Franco-German proposal that emerged on Monday and is likely to serve as the basis for negotiations appears deeply flawed. Its automatic sanctions for countries violating deficit limits have a loophole allowing violators to escape unscathed if a majority Eurozone vote decides as much, institutionalizing the kind of political haggling the markets loathe. Its balanced-budget legislation requirement for every Eurozone member may see some states leave, stoking instability.

“Finally, its pledge to finish the permanent ESM bailout fund in 2012 is meaningless given its size is hardly a game-changer from the existing EFSF. The markets are unlikely to be impressed unless the Franco-German framework is materially strengthened, otherwise clearing the way for the safe-haven US Dollar to rise anew against its leading counterparts.”

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