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A bullish signal for Canada’s banks, the SNC-Lavalin rally isn’t over, and why gold is setting up for a fall
One of the few beneficiaries from the outbreak of a deadly new coronavirus in China has been gold, which is fulfilling its customary role as a safe haven. But the epidemic may actually end up being bad news for the precious metal.
Gold market watchers, particularly those in the Western world, tend to focus heavily on risk-on, risk-off sentiment swings and subsequent flows into, or out of, gold investment products, such as exchange-traded funds (ETFs).
While this is a valid method of assessing investor interest in gold, it also ignores the fact that about half of the physical gold market is made up of just two countries, China and India.
Gold demand in those two heavyweights is already struggling amid slower economic growth and higher bullion prices, with China’s jewellery demand dropping 8.6 per cent to 629 tonnes in 2019 from a year earlier, according to figures from GFMS.
China’s investment demand was better, increasing 1 per cent in 2019 to 235 tonnes, aided by uncertainty over the trade war with the United States.
But the overall picture for China was one of weakness in gold demand last year, and it’s virtually certain that the outbreak of the virus won’t help retail demand, given the likely hit to the Chinese economy and to consumer confidence.
The new coronavirus, which started in the city of Wuhan, has so far left 170 people dead, infected more than 7,700 and spread to at least 15 other countries.
Spot gold has lifted since the virus started grabbing headlines, with the price rising from a recent closing low of US$1,546.12 an ounce on Jan. 14 to end at US$1,584 on Friday, a gain of more than 2 per cent.
The price rise has been mirrored in inflows into ETFs, with holdings in the largest, the SPDR Gold Trust increasing from 28.12 million ounces on Jan. 14 to 28.92 million by Wednesday, a jump of 2.8 per cent.
In isolation that doesn’t look like a weak performance, but gold certainly hasn’t benefited as much from safe haven flows as other commodities have been slammed by fears about the economic impact of the virus.
Benchmark London copper has plunged 10 per cent from its close on Jan. 16 of US$6,277.50 a tonne to end at US$5,641 on Wednesday, while Brent crude futures have dropped 9 per cent from the close on Jan. 20 to Wednesday’s final price of US$59.81 a barrel.
There is a chance that investors have oversold both copper and crude, or indeed that they haven’t piled hard enough into gold.
Much will also depend on the future trajectory of the virus, with copper and crude likely to recover if it appears it will only be a short, sharp hit to the Chinese and wider Asian economies.
Such a scenario would likely cause gold to lose some of its safe haven flows, but this could be outweighed by a return of consumer demand in China.
India is also a concern for gold, with imports of the precious metal plummeting in the second half of 2019 to 267 tonnes, down from 564 tonnes in the first half, according to a government source.
Imports in India normally rise in the second half of the year amid buying for festivals and the wedding season, making the slowdown particularly concerning.
It’s likely weaker economic growth in India and higher bullion prices contributed to the slowdown in imports.
These dynamics illustrate gold’s dilemma. In order to get stronger consumer demand in India and China, prices will have to moderate.
But if the current safe haven rally fizzles, then investors in ETFs may withdraw support, putting downward pressure on prices.
For gold in the short term, it comes down to whether safe haven demand can outweigh the negative impact on consumer demand from the virus in China and economic challenges in India.
-- Clyde Russell, Reuters
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Stocks to ponder
SNC-Lavalin Group Inc. If you regret not buying SNC-Lavalin shares at their lows last year, before a division of the Montreal-based engineering firm struck a plea deal to resolve a criminal case against it, sending the share price soaring, here’s an upbeat idea: Big gains are still ahead. David Berman explains.
The Rundown
Why Canada’s big bank stocks are likely to gain 20 per cent within two years
There’s been a remarkable change in the relationship between the attractive dividend yields of domestic banks and the yields on risk-free bonds in the past two decades, and it’s one that implies strong returns for the bank sector in the coming years. Scott Barlow offers this analysis.
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Ask Globe Investor
Question: Recently, REITs and utility stocks have not performed well. I’d like to understand why this has happened. What is the relation between the interest rates and their impact on stocks such as banks, insurers, REITs, and utilities. What sectors are going to be the most hurt when interest rate start going up again? And what sectors will benefit?
Answer: REITs and utilities are interest-sensitive securities. That means the market price will tend to rise as interest rates fall, and vice-versa. We saw this in 2019 when we experienced a big jump in the prices of those sectors after the U.S. Federal Reserve Board first put rates on hold and then cut three times.
Recently, the Fed has signalled that no further rate cuts are contemplated in the near future so prices of interest-sensitive securities have pulled back somewhat. I would not be too concerned about these price movements. These securities are normally held for income purposes. As long as the company is sound and is maintaining or raising its dividends, don’t worry about price fluctuations.
When interest rates rise, it’s a signal of a strong economy so economically-sensitive stocks will perform well. These would include railroads, airlines, manufacturing, and resource stocks.
--Gordon Pape
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What’s up in the days ahead
This weekend, Rob Carrick presents the 2020 ranking of Canada’s online brokers, and Tim Shufelt looks at the potential impact of the coronavirus on the TSX.
Click here to see the Globe Investor earnings and economic news calendar.
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Compiled by Globe Investor Staff