Gold Bulls Boost Bets on Rally Just as Prices Extend Drop

Hedge funds increased their bets on a gold rally, just before prices fell for a second week as an accelerating U.S. economy outweighed concern that violence between Russia and Ukraine will escalate.

Money managers increased their net-long position by 3.1 percent in the week through July 22, U.S. government data show. Two days later, prices dropped to a five-week low amid declining demand. Purchases by China, the world’s biggest user, fell 19 percent in the first six months of the year.

Gold futures are headed for a July decline after rallying 10 percent in the first half of the year, a gain that outpaced broad measures of commodities, equities and treasuries. While buying was fueled by tensions in Ukraine and the Middle East, signs of U.S. growth reduced the appeal of bullion as an alternative asset. Americans filing for unemployment insurance payments held near an eight-year low in the week ended July 19, and consumer sentiment was at a three-month high.

“People bought gold because of fear but once that passes, the premium diminishes,” James Shelton, who helps oversee $2.2 billion as chief investment officer of Kanaly Trust Co. in Houston, said July 24. “As we will see the economy strengthening further, we expect the drop to accelerate.”

Futures are down 1.2 percent since the end of June to $1,305.80 an ounce in New York, after dropping 0.4 percent last week. The Bloomberg Spot Commodity Index of 22 raw materials was little changed last week, halting a four-week slide, while the MSCI All-Country World Index of equities climbed 0.4 percent. The Bloomberg Treasury Bond Index rose 0.1 percent.

Volumes Drop

The net-long position in gold rose to 136,120 futures and options contracts as of July 22, U.S. Commodity Futures Trading Commission data show. Short holdings betting on a drop declined 19 percent to 21,112 contracts.

The precious metal’s appeal to investors is waning. Open interest on the Comex fell to the lowest in a month last week, and trading dropped 52 percent since touching an 11-month high in May, exchange data show.

Sales of gold coins at the U.S. Mint, the world’s largest, are heading for the worst month since March. Holdings in global exchange-traded funds backed by the metal fell by 2.3 tons last week, or 0.1 percent, the first drop in five weeks.

In 2013, bullion tumbled 28 percent, the most in three decades, as a stronger U.S. economy and the prospect of less monetary stimulus curbed demand for alternative assets.

The Federal Reserve has trimmed its monthly bond-buying program to $35 billion, after five straight cuts of $10 billion each since November. Fed officials will announce their next policy decision at the end of a two-day meeting on July 30.

Over $1,300

Gold bulls who have raised their net-long position in six of the past seven weeks still see a risk of inflation, which could revive the metal.

Fed Chair Janet Yellen on July 2 affirmed U.S. borrowing costs will remain low, boosting demand for the metal as an alternative investment. Consumer prices rose 2.1 percent in the 12 months from June, rebounding from a rate of 1.1 percent in February, government data showed last week.

While inflation may not pick up “radically in the next month,” it has bottomed and will rise over the next few years, according to Patricia Mohr, a market specialist at Scotiabank Group in Toronto. She said gold will average “a little over” $1,300 this year.

Tension in Ukraine and violence in the Gaza strip boosted demand for the metal as a haven. The downing of Malaysian Air Flight MH17 over eastern Ukraine this month has dashed at least temporarily any chances of de-escalating the struggle between the rebels and the government. In the Middle East, the conflict has left more than 800 Palestinians and 35 Israeli soldiers dead since it escalated on July 8.

‘Provide Support’

“There is so much uncertainty in the world, so I would expect prices to remain steady,” Peter Jankovskis, who helps oversee $3.2 billion as co-chief investment officer of Lisle, Illinois-based OakBrook Investments LLC, said July 24. “There has been no improvement in the Ukraine or the Middle East situation, and that will provide support going forward.”

Last week, in the four days through July 24, U.S. investors sold $264 million from exchange-traded funds that track commodities, including an outflow of $151 million from those backed by precious metals, according to data compiled by Bloomberg.

Combined net-wagers across 18 U.S. traded commodities fell 9.5 percent to 904,787 contracts as of July 22, the lowest since February, the CFTC data show.

Bets on higher oil prices increased 7.3 percent to 278,116 contracts last week, ending a four-week decline, on increased concern that the Ukraine conflict and economic sanctions will disrupt supplies from Russia, the world’s biggest energy exporter.

Agriculture Slump

A measure of net-long positions across 11 agricultural products slumped 20 percent, the largest decline since January. The Bloomberg Agricultural Spot Index, which is heading for a third straight monthly drop, slumped last week to the lowest since 2010.

Investors cut bullish bets on cotton by 53 percent, to the lowest since December 2012, as prices capped a 12-week slump that was the longest since 1959.

Bullish bets on corn fell for the second straight week. Yields in Iowa, the biggest U.S. grower, may rise to records this season as mild weather boosts plant development, according to estimates from Doane Advisory Services, which toured fields last week.

“The weather has been very cooperative, and all things point towards record harvest for most crops,” John Toohey, the San Antonio-based vice president of equity investments at USAA Investments, which manages about $63.6 billion of assets in mutual funds, said July 24. “Unless there is a big weather disruption, there is very little chance for an upside in prices.”

Before it's here, it's on the Bloomberg Terminal.