With nearly 28-30 per cent returns, precious metals were some of the best commodity performers in the first half of Calendar 2016. Investment demand had brought safe haven assets to the fore due to the uncertainties in the global economy.
But the December quarter proved to be disappointing for the bulls in the bullion market. Gold and silver closed the year with 10 per cent and 19 per cent gains, respectively. Although the precious metals are entering the New Year in a depressing mode, wild swings might be seen in the coming months due to divergent macro-economic reasons.
What’s causing precious metals to fall dramatically?
The US dollar: The greenback surged to its highest in 15 years after the US Federal Reserve hinted that US interest rates could rise faster in 2017 than investors were anticipating. The Fed also hiked interest rate for the first time in a year.
The dollar rallied sharply since the November 8 US presidential election. Market strategists have largely attributed the rapid appreciation in the greenback to Trump’s proposed policies, notably corporate tax cuts, massive infrastructure spending and protectionist measures.
With US equities at a record high and interest rates poised to rise in 2017 faster than expected, investors in exchange-traded funds are offloading precious metals.
Robust economic figures from the US are raising the confidence among traders for a faster-than-expected rate hike in the world’s largest economy. The labour market and inflation have been on the Fed’s radar at its policy meetings. As the degree of slack lessens, the Fed feels the labour market is close to hitting the 2 per cent target.
The US unemployment rate fell to 4.6 per cent in November from 4.9 per cent the prior month. Now that the labour market is strengthening and inflation is near the 2 per cent target, there is a strong case for the Fed to hike interest rate faster than expected. This is a bearish indicator for precious metals.
From an Indian perspective, there is lot of confusion on whether the demonetisation drive will have an impact on gold prices. In our view, the note ban might bring down the Indian gold demand in the short term. Our opinion is based on the assumption that the majority inflow to gold happens through black money.
Once the black money dries up, demand for gold will drop. However the fall in demand from India won’t have much of an impact on gold prices, as it is largely impacted by internation factors. On the gold import front, there was a widespread speculation that the government may reduce the import duty from 10 per cent to 6 per cent in the forthcoming budget. Should that happen, Indian prices of gold may drop further compared with international prices.
In conclusion, we believe a strong dollar will not allow the precious metal bulls to take the prices northward. From an Indian perspective, a depreciating rupee might support the prices as it might not fall as much as its international counterpart. We expect domestic gold prices to initially fall towards Rs 25,500. Overall in 2017, we expect gold to average out at Rs 28,000.
Silver looks a better bet than gold, as it is mostly used in industry. With industrial commodities doing better due to an improving economic scenario, silver might outshine gold as it did in 2016.
On the price front, we expect silver prices to initially fall till Rs 36,000, a good buying zone. On the higher side, the white metal could once again test the Rs 50,000 mark. In 2017, we expect silver to average out at Rs.44,000.