Funds turn sour when you least expect it


Gold, in financial market tradition, is a fairly simple beast.

Despite all its complexities, what it basically likes is a weak dollar, turbulence and lower interest rates. Falls in the greenback mathematically increase the price of commodities denominated in dollars. The turmoil is pushing investors into safe-haven assets, of which gold is by far the oldest. Falling rates reduce the attractiveness of its main competitor as a safe haven, yield-producing government debt.

This makes the business of today’s fund managers rather mystifying. Animal spirits appear to be returning to financial markets, reducing interest rates and dollar strength, as US President Nancy Pelosi’s visit to Taiwan threatens to trigger the biggest geopolitical crisis since the invasion of Ukraine by Russia. Gold itself is up 3.9% in the past three weeks, its best run since the eve of the Moscow war in February – behaving as one would expect.

Funds don’t buy it. In data dating back to 2006, fund managers have almost always taken a net long position in Chicago-traded gold futures and options, with more betting prices will rise rather than fall. . In just 37 out of 841 weeks, the group has relied on weakness in gold – but that’s what has happened in recent weeks. As of July 26, their net position was short 10,474 contracts, before bouncing back to a short long position of 27,899 contracts last Tuesday. Net short positions only popped up a few times in late 2015 and 2018 (and, very briefly, early 2016 and 2019):

One possible explanation could be that more and more play money in the gold markets is heading into private hands. There is another group of investors that the United States Commodity Futures Trading Commission collects data from, called “Other Reportable Items”. Like fund managers, they make macro bets on gold rather than the physical metals sector or trade spreads between bid and ask prices.

Unlike them, they bet their own money, as family offices, in-house hedge funds or wealthy private clients. They are almost always on the long side of the trade, and over the past couple of years have grown to take a larger share of long positions than conventional managed money market funds:

That doesn’t quite explain it, though. While “Other Reportable Items” remain long, they have also recovered their net positions near their least bullish levels since early 2020.

The holdings of exchange-traded funds are moving in the same direction. The mountain of gold that ETF investors accumulated to hedge against uncertainty following the invasion of Ukraine has now been wiped out:

It is possible that the discrepancy between investor positioning and price momentum relates to the behavior of retail buyers. Jewelry typically accounts for around half of gold demand, and while prices aren’t particularly cheap at the moment, with trillions in post-Covid savings on the fringes and inflation approaching double digits, they have better value every day. Shares of Chow Tai Fook Jewelery Group Ltd., a Hong Kong jeweler with thousands of outlets in mainland China and a good indicator of trinket spending there, are currently nearing their highest levels since November.

Macro hedge fund managers, despite their big salaries, have nothing like a perfect balance sheet to predict the direction of the market. If you had bought gold and held it for 12 months in October 2018, when they were at their shortest ever, you would have returned 27%.

Still, the disconnect between high levels of short-term interest and bullish price action suggests that something has to give. For a year now, the strong and long-standing inverse correlation between gold and US Treasury yields has been collapsing. If this relationship returns to anything like normal, we are going to see either a big drop in interest rates or an equally big drop in the yellow metal.

More from Bloomberg Opinion:

• No investor should buy single-stock ETFs: Nir Kaissar

• Do animal spirits fall into a stupid money trap? : John Authers

• Why did equities take off from their fundamentals in July? : Mohamed El-Erian

This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.

David Fickling is a Bloomberg Opinion columnist covering energy and commodities. Previously, he worked for Bloomberg News, the Wall Street Journal and the Financial Times.

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