Miglior Broker Mondiale STP/ECN

For markets, an ECB press conference is a minefield. Rather than release all the pertinent information in a statement at the time of the decision (as other major central banks do), the ECB gives the bare minimum then throws in the curveballs in the press conference opening statement and quite often, in the question and answer session.

The price action on the euro reflects this once again today. A cut in the main refinancing rate was expected and delivered. The initial rally came on the fact that the deposit rate was kept at zero (there were fears that it could be pushed into negative territory). The reversal came as the ECB promised to offer full allotment at its refinancing operations (giving banks all the liquidity which they ask for) to the middle of next year. The curve ball was the revelation that Draghi has an “open mind” on a negative deposit rate. Two month ago, he described this as “unchartered waters” and noted that “the unintended consequences of a measure like that can be serious”.

But would it be such a serious thing? In some ways not as much as before, which is why Draghi may be softening his stance. During the depths of the financial crisis, banks were parking billions at the ECB on a daily basis rather than lending it out to other banks or elsewhere. This year, overnight deposits have fallen by half and excess liquidity in the Eurozone (as measured by the excess of current account balances beyond requirements and net lending back to the ECB) has also fallen by half, to EUR 383bln. At the same time, banks have repaid (ahead of time) more than EUR 400bln in 3 year loans.

In summary, there’s less money sloshing around, so less of it being deposited back at the ECB which means fewer banks will be impacted by a negative deposit rate. By waiting until later this year to implement such a measure, the ECB could well be thinking of having it as a stick, rather than a carrot, so that banks don’t find themselves in the situation of having to deposit huge amounts back to the ECB again.

For FX, the effects have been apparent today. The fact that such a measure has not been introduced elsewhere would make the Eurozone stand out from the crowd. It could encourage well capitalised banks to park money beyond the Eurozone, hence the negative currency reaction. But if current trends continue, the negative consequences of such a move diminish, which is why we could well see it soon.

Even before the tumble in the price at the end of last week, things were not looking good for Gold. Before this year, the multi-year bull market (rising in dollar terms every year from 2001 to 2012) defied the credit crisis and the subsequent period of patchy global recovery and central bank quantitative easing. This increased the perception that gold could survive anything and the good times would continue. But it also created a false sense of security for gold bulls and that’s now increased, because the old rules have broken down and as yet, there’s nothing new to replace them.

Of course, unlike stocks or bonds, gold gives no income flow (coupon or dividend) and has limited use, so traditional approaches to security valuation (estimating and discounting these flows) can’t be applied. As such, many theories and views (some tame, some very crazy) fill this intellectual void to justify (mostly higher) valuations.

There have been many justifications of the rising gold price in recent years during the 2001 to 2012 period. During the early part, gold was painted as a dollar story, the rising gold price (in US dollars) the opposite side of the falling dollar story. During this time, gold’s correlation with the dollar was -0.55. On the same basis (rolling 3-month, measured weekly) it’s now in positive territory.

There’s been a similar change in gold’s relationship with global real interest rates (global bond yields minus inflation). The relationship is a simple representation of the opportunity cost of the real return forgone by holding a non-yielding asset. If inflation adjusted returns are high in general, then it’s a bigger hurdle for investors to give up to invest in gold, with a larger capital appreciation needed to overcome the real rate lost. This held quite strongly in the credit crisis period (2008-12), an inverse correlation of 0.50. Currently it’s strongly positive at 0.65.

Even the advocates of money debasement via the expansion of central bank balance sheets are having a hard time of late. Over the past 6 months, global G4 central bank balance sheets have expanded by more than 12% (weighted change in assets), whilst the gold price has fallen by 16%.

The upshot is that the golden rules for gold, as much as there can be rules for such an asset, have floundered. For now, nothing has emerged to take their place. As such, expect the bulls to push a return to the old world order. Whilst the global gold price peaked 19 months ago, global holdings of gold in ETFs peak just 4 months ago. From this perspective, the lack of a rule-book could mean that there is more liquidation to come before any recovery can take place.