Gold waiting for direction; silver on tenterhooks

Egypt's heightened political crisis of the last several days fortunately stood lessened over the weekend with President Hosni Mubarak agreeing to give up his post. But geopolitical concerns are far from over as some other countries in the region seem to have taken a cue. So, the situation continues to be fluid, although a little less tense than before. Food inflation is another big issue for many governments as they attempt to contain price spike and shortages.

Central banks too, especially in Asia, are busy tightening credit to fight inflation. Last week, China raised its lending rates – second time this year – by a further 25 basis points. On the other hand, low interest rate regime in the US is likely to continue to for some more time. These divergent monetary policies impact commodity markets in their own way.

Amidst such a fluid scenario, steel demand presents a positive picture. The positive correlation between steel consumption and global economic growth is well established. The year 2010 saw a robust surge in global demand (ex-China) which pushed production to a record high of over 1,400 million tonnes. The current year 2011 is most likely to turn out to be another year of solid growth, albeit less-spectacular than 2010, with demand expected to surpass 1,500 mt. Signals from the steel sector are too strong for anyone to ignore, despite lingering concerns over inflation and monetary tightening.

Significantly, the country's steel consumption demand has been rising rapidly. The year 2010 saw strong consumption growth, which was unmatched by indigenous production. Imports helped meet domestic demand.

Gold: In a volatile week marked by political uncertainties, gold and silver prices fluctuated with reports of a recovery in physical demand help cushion the downside. However, it is clear, the upside is still to be probed as gold is facing short-term headwinds.

On Friday, in London, gold PM Fix was at $1,364 an ounce, up 0.8 per cent from the previous day's $1,353/oz. Silver followed suit routinely with AM Fix on Friday at $30.00/oz, up 0.7 per cent from the previous day's $29.80/oz.

In Comex, the net fund length has fallen to the lowest level since May 2009 and physical ETP holdings are at their lowest level since June last year. Gold's upside rests with investor interest. The longer-term investment environment in the form of easy money, currency debasement, medium-term inflation fears and geopolitical concerns appears supportive for the yellow metal. Yet, one must expect the market to be volatile with an upward bias. Improvements in the equities market are sure to hasten long liquidation in gold.

Needless to add, silver prices continue to move on gold's cues. As the fundamentals are weak (market is in an estimated 5,000 tonne surplus), silver is more vulnerable to a sharper price correction than gold. Like in gold, investor interest is key. However, new demand segments are coming up, solar panels for instance. Asian demand for solar energy and in turn for solar panels is expected to surge in the coming years.

Base metals: Prices were under pressure last week with copper down 0.9 per cent week-on-week, while aluminium was down 0.2 per cent, both of which were attributed to a rise in exchange stocks. While base metals prices showed a strong upward momentum in January this year, the last two weeks have seen range-bound trading. This is being interpreted by experts as pause for breath as global growth prospects look sunny. Outlook for industrial metals is positive and they are positioned for price gains.

However, there could be short-term concerns as regards physical demand as monetary tightening and risk of slowdown in emerging markets cannot be wished away. According to experts, overall, the current global aluminium market is in balance to a small deficit with China in significant deficit at present. This has resulted in a short-term bullish view on aluminium. Copper and tin fundamentals look tight and inventory drawdown look inevitable. Nickel demand, especially in Asia, is high.

Crude: While geopolitical concerns continue to underpin energy market, the demand side looks absolutely robust. Oil demand and call on OPEC crude are expected to be higher in 2011 as in 2010. The WTI-Brent differential that last week rose to a record $ 15 a barrel is expected to reduce. Put simply, high crude prices are here to stay.