Recession? What Recession?

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Good Afternoon,

Gold enjoyed a fourth day of gains on Tuesday, rising 1.5% to near the $925 test area we mentioned in yesterday's closing article. Following a forecast of $150 oil by billionaire fund manager Boone Pickens, black gold took to the skies once again, setting new records above $129.30 per barrel. The release of the US PPI numbers this morning was met with dismay by the stock market (Dow fell 225 points) as they reveal that core PPI inflation (ex energy and food) rose faster than expected. The data also drove the greenback southward, and this inflation signal could be the tipping point flare for the Fed to not only start holding steady on rates but to think about mimicking the ECB' firm stance up to now, and possibly firmer stance going forward.

Speaking of Europe, German consumer confidence took an unexpected hit in May, but the euro headed to a three-week high vis a vis the greenback on speculation and some forecasts that the ECB will actually hike interest rates in the not too distant future, in order to combat inflation. The dollar thus fell under 72.50 on the index despite the signals from the Fed (through its Vice Chairman Kohn) that it is satisfied with rates where they now are (read: no change in rate policy coming in June). The Fed appears cognizant of the eventual need to vacuum up the excess liquidity sloshing around in the system but is apparently holding back from such a campaign on expectations that the inflation souffle will self-regulate and ease to 'containment' levels.

Some support for the Fed's line of thinking came today from John Lonsky at Moody's Investor Service - his take is that this recession or whatever label the contraction will eventually wear, may be the mildest/shallowest one since the Great Depression. That would be consistent with the pattern we have observed with the past several recessions - shorter, and shallower each time. After WWII the US has endured only 11 of these dips, whilst prior to it, more than 22 severe ones have battered the economy (some deeper than the Great Depression). Something must be working. It could be the learning curve exhibited by the Fed in injecting liquidity and subsequently mopping it up and avoiding runaway inflation.

Comments regarding the state of the financial markets continued to make their way across the news tickers, as has now become routine. George Soros, another billionaire investor, is convinced that the 'acute' phase of the credit crunch is in the rearview mirror. The IMF feels that substantial risks remain and Oppenheimer & Co believes that another $170 billion in write downs is yet to come (through 2009 at least). Silver rose 66 cents to $17.66 however platinum fell $10 to $2142 and palladium lost $3 to $447 per ounce. Mild profit-taking emerged in the noble metals complex but the consensus is that higher prices are to be expected as the year progresses.

We have - as best we could - attempted to bring the underlying structural reality in the gold market to our audience over the past four months. Our findings (as well as those from CPM and GFMS) were met with vocal skepticism by the perma-bulls who continued to bang away on the investment drum and how that sector was going to single-handedly keep this market aloft and headed even higher. It turns out that even investment demand wasn't that hot (dropping 35%). Even as prices were making historic highs, the core structure of the marketplace was seeing distortions and trends that were anything but comforting. This morning, the World Gold Council released its First Quarter Demand Trends for 2008 and the picture of a very different gold market than that of a year ago, has emerged. Effectively, this is a market in disarray. Not that is it alone in this situation.

Save for demand from the gold ETFs, (and a bit of investment offtake from China and VietNam) the offtake for gold fell, and fell sharply, across all measurable areas. So much for the argument that high gold prices do not matter and that users will get used to them. The WGC in fact singles out the record gold price as the critical impact factor on the demand slump.

Highlights from the WGC's Executive Summary:

" The sharp rise and unusually high volatility in the gold price, which briefly touched record levels above $1,000/oz in mid-March, was a key determinant of movements in gold demand in the first quarter. It resulted in total identifiable demand falling by 16% in tonnage terms from year-earlier levels to 701.3 tonnes (the lowest for five years) but rising 20% in value terms to $20.9bn, more than double the level of four years earlier.

Jewellery demand declined 21% year-on-year to 445.4 tonnes, the lowest quarterly level on record since 1993. In dollar terms this equated to a rise of 12%, reaching $13.2bn.