Update: Gold, Oil & the Pound

  • These 3 sectors were probably subject to the most volatility the last few months and this update will present my views on them.

Gold

Observations:

  • After a sharp drop of about 15% at the end of September, Gold has recovered a portion of this decline (Fig. 1).
  • Reasons for such a drop:
    1. The ECB is said to reduce/taper its stimulus program which currently buys 80 billion Euros/mon. The current QE program ends on March 2017
    2. A possible US Interest rate hike in December 2016.
  • A closer look suggests it is more to do with High Frequency Trading (HFT) machine algorithms.
    • If you don’t know already these are machine programs designed to trade in fractions of a second based on the news with a preprogrammed algorithm, purely for short term positions.
    • On October 4, 2016, gold futures opened more than -3% on a sharp drop, yet such a decline would lead to issues such as forced liquidations, decline in hedge funds that are heavy on gold, and trigger a large-scale trend for selling. This would be the normal market behaviour.
    • However such was not the case as you still have billionaire fund managers such as Crispin Odey who has bet 86% of his portfolio in gold in a one way bet.
    • Therefore a high probability of what else could cause such a decline is the profit taking of these HFT algorithms. This simply creates volatility for the short term for the funds strategy.
  • Currently BlackRock World Gold Fund (Fig. 2) has recovered slightly. My average purchase price was around $35. The underlying top holdings have recovered also:
    • Newcrest Mining (Fig. 3)
    • Newmont Mining (Fig. 4)
    • Barrick Gold (Fig. 5)

Strategy: Continue with the same view and percentage in Gold. HFT has only created short term volatility which has led to pessimistic levels. Of note is the 50% retracement the market looks at which is $1210/oz. Fundamentally this sector is still strong.

 

2016-11-01-gold

Fig. 1 – Gold price action after decline in late September (Source: Stockcharts.com)

 

2016-11-01-br-world-gold

Fig. 2 – BlackRock World Gold Fund. Re-entered around $35 Sept 22, 2016 (Source: Bloomberg.com)

 

Fig. 3 - Newcrest Mining price action (Stockcharts.com)

Fig. 3 – Newcrest Mining price action (Stockcharts.com)

 

Fig. 4 - Newmont Mining price action (Source: Stockcharts.com)

Fig. 4 – Newmont Mining price action (Source: Stockcharts.com)

 

Fig. 5 - Barrick Gold price action (Stockcharts.com)

Fig. 5 – Barrick Gold price action (Stockcharts.com)

 

ECB said to Talk Taper at the Conclusion of QE (Source: Bloomberg.com)

 

Oil

Observations:

  • Volatility is significant also in this sector which makes it not suitable for funds trading.
  • The big news in late September is OPEC agrees to reduce output of oil to 32.5-33 million barrels a day from 34 million. This has led to a surge in prices from mid $40 to around $50 before retracing again to $46 (Fig. 6). Once again HFT is suspected to be profit taking.
  • This piece of news can drive the price of oil higher, yet it still does not solve the crude oil supply dilemma.
  • If one is a volatility trader, opportunities can be seen in underlying ETFs such as OIH (Fig. 7). However this is short-term and not appropriate for funds portfolios.

Strategy: Currently avoid this sector due to short term volatility.

 

Fig. 6 - Oil price action (Source: Stockcharts.com)

Fig. 6 – Oil price action (Source: Stockcharts.com)

 

Fig. 7 - OIH ETF price action (Source: Stockcharts.com)

Fig. 7 – OIH ETF price action (Source: Stockcharts.com)

 

 

The Pound

Observations:

  • Sharp decline of ~15% on Brexit late June 2016. Currently at a 31-year low (Fig. 8).
  • We believe there is still more room to the downside as continuing negative news surfaces.
  • This currency is affected by several factors, FXCM summarizes this quite well. Currently it is most affected by the economic uncertainty and environment with the UK leaving the EU.
  • Evidence is also seen for large amount of sell orders generated by HFT.

Strategy: Avoid UK/Europe due to instability.

 

Fig. 8 - GBPUSD price action (Source: Stockcharts.com)

Fig. 8 – GBPUSD price action (Source: Stockcharts.com)

 

Conclusion

  • Apart from the Gold sector which has recovered somewhat from the recent volatility, Oil and GBP (Europe) are to be avoided for the short term for funds.
  • Even so for property portfolio risk management, gold is not more than approximately 20-30% of total holdings.
  • The markets are changing and many sectors are volatile and driven by short term news.
  • Markets are made where smart money goes, but this is generally short-term and not as favourable/predictable for a longer-term funds outlook.
  • There maybe an impending market crash due to research presented by several doomsday experts. I will cover this in the next update. We have seen this before and in our opinion, the uncorrelated holdings of the model portfolios are positioned defensively for this volatility.

 

Best,
Michael

Disclaimer