Chinese Rating Agency Decision Lifts Gold Market, But Impact Debated

Thursday October 17, 2013 11:36 AM

(Kitco News) - News that a Chinese rating agency downgraded U.S. debt pushed gold prices higher during the late Asian to early European trading sessions, some market watchers said, taking values to their session highs.

Since then, gold prices backed off from their peak slightly, but remain elevated.

As of 11:19 a.m. EDT, gold for December delivery was up $35.70, or 2.8%, to $1,318 an ounce on the Comex division of the New York Mercantile Exchange. It hit a high of $1,322.90 that was its most muscular level in a little more than a week. December silver was 42 cents, or 2%, higher to $21.785.

A Chinese credit-rating agency, Dagong Global Credit Rating, trimmed its rating of the U.S. by one notch to A-minus from A. According to Reuters, the agency said that the agreement in Washington between Democrats and Republicans to reopen the government and come to a temporary debt deal does not defuse worries about the U.S. deficit or improve the country's ability to repay in the long term.

Some market watchers said when the news broke, gold prices spiked about $30 higher, pushing through the $1,300 level, where pre-placed buy orders, known as buy stops, were likely triggered, exacerbating the move.

A metals trader said Dagong's statement "seems to be a reminder to investors of the damage that has already been done to the U.S.'s economic and political standing. Now they are not recognized by the SEC (Securities and Exchange Commission); however, their points in the press release can't be ignored. This seemingly took its toll on the USD (U.S. dollar) and gold shorts rushed to cover their positions. The yellow metal moved over $30 higher in the span of 10 minutes."

The Reuters story called Dagong "China's biggest home-grown ratings agency" but also said outside of China, Dagong's ratings are "barely watched." The Reuters story also said "major international credit agencies classify most countries very differently from the Chinese agency. Its views do not necessarily represent the Chinese government's stance, however, its analysis often runs in tandem with remarks from government officials."

Some market watchers attributed the gains in gold to the Dagong announcement, but not everyone agreed. Ken Morrison, founder and editor of online newsletter, Morrison on the Markets, didn't give the news much credence in relation to gold's action. Morrison spent several years working in Asia before returning to the U.S.

Morrison said he thought the rise in gold was more circumstantial, rather than directly tied to the Dagong news.

"If the market thought Dagong's rating signaled a greater risk of China dumping Treasurys, it should first show up in the bond market and yields are lower across the board there. Gold is responding to dollar weakness and probably now focusing on a (Janet) Yellen-led Fed (Federal Reserve) and delays in tapering into 2014," he said.

Kevin Grady, owner of Phoenix Futures and Options, said it's a tough call on whether the ratings' agency decision spiked gold.

"It's really a hard read. There are two sides to everything. Maybe it is (supportive to gold), a downgrade to U.S. debt makes gold as a hard asset more desirable. But, that causes interest rates to rise," which is negative for gold, he said.

Grady said although gold futures prices are stronger Thursday, action in the options pit tells a different story. "They're crushing vol in there," Grady said, meaning that volatility for gold is falling.

In options on futures, volatility measures the risk of how much prices can change. Higher volatility means prices can change a lot over a short period of time in either way, while lower volatility means the value will likely change at a steadier pace.

Grady said the dropping volatility in gold suggests that these traders are less concerned about prices rising. "These are large traders. You're not seeing the small stuff," he said. "This really seems to be a directional trade."

Brown Brothers Harriman analysts said they believed the Dagong news was just an excuse for traders to sell the U.S. dollar. BBH said prior to the ratings cut on Thursday, the credit agency's view on U.S. debt was already below the AAA rating of Moody's and Fitch, and Dagong's rating was under Standard & Poor's rating. S&P cut the U.S.'s AAA credit rating after the 2011 debt ceiling negotiations.

"Dagong's move is not representative of how U.S. Treasurys are perceived. Yet it plays on fears that the U.S. drama will accelerate the diversification out of dollars and Treasurys. We do not think those fears are justified," BBH said.

BBH pointed to a $5 billion rise in Treasury holdings on the Fed's custody facility for foreign central banks, even though the government was shut, a figure they forecast to rise further when new data are released later Thursday. The firm also noted that China's reserves jumped by $164 billion in the third quarter.

"The best way for China to reduce its dependence on the dollar and U.S. Treasurys is to stop accumulating reserves. As long as it is accumulating reserves, its dilemma remains in place," they said, noting there is no other market big enough to absorb all the proceeds from countries that are building reserves.

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Read the latest news in gold and precious metals markets at Kitco News.

By Debbie Carlson of Kitco News;

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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