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Nadeem Walayat Financial Markets Analysiis and Trend Forecasts

Indian Surge in Gold Demand due to the 'Wealth Effect'

Commodities / Gold & Silver Jan 17, 2008 - 11:22 AM GMT

By: Gold_Investments

Commodities Gold continued to sell off yesterday and was down $19.70 to $880.90 per ounce at the close in New York yesterday and silver was down 42 cents to $15.78 per ounce. Normally sell offs are quite sharp and last some 2 to 4 days and therefore some follow through selling may be witnessed. However, the strong fundamentals should result in gold being well supported at previous resistance at $850.


Recession fears are deepening as the outlook has clearly deteriorated and even the most sanguine bulls have admitted that. The Federal Reserve cutting interest rates in order to attempt to ease the credit crisis and prevent a deeper recession while inflation remains strong is very gold bullish. Especially given the tight supply/demand situation and decreasing mine supply internationally.

Gold's sell off has not continued in Asian and early European trading and the London AM Fix was at $881.50 (up from $881.00 the previous day). At the London AM Fix gold was trading at £448.40 (down from £450.20 yesterday) and €603.40 (down from €609.05 yesterday).

Indian Gold Demand
India remains the world's largest importer of gold and continues to show a healthy appetite for physical gold. Although demand has slowed in last quarter of 2007 it is important to remember that this fall is from all time record highs. Demand has increased dramatically in recent years and the increase in demand could not continue ad infinitum.

Gold is a huge part of Indian marriage rituals as wealth in the form of dowries is usually given to the brides in the form of beautiful gold jewellery. While in the western world we have in modern times separated and distinguished between gold in the form of jewellery from investment grade gold in the form of bullion coins or bars, in India jewellery often serves as an investment and as a form of savings. Especially as financial institutions in India have not been known for their credit worthiness or financial stability and the rupee has up until recently been a very weak and constantly devalued currency.

The ‘wealth effect' in India is of importance. The rupee continues to strengthen against most currencies but especially the dollar and the economy is booming with strong gains in property and stock markets. Thus India's ability to remain a leading importer of gold has strengthened due to this huge increase in wealth in recent years.

Assertions that slowing gold demand in India will lead to a fall in gold prices will again be seen as erroneous. Indian gold demand is just one of many fundamental factors driving the gold market today. Geopolitical and more importantly macroeconomic risk are the fundamental drivers of the gold market today. There is an increasing likelihood of deflation and stagflation in many major economies and in the global economy and this is leading to huge safe haven investment demand for gold. This is clearly shown in the massive growth in the gold holdings of gold ETFs internationally.

Any decline in Indian gold demand is likely to be more than made up for in investment demand internationally and also from Chinese gold demand which is tiny when compared to demand from the subcontinent. The Chinese gold market was only recently liberalised and Chinese people can now own gold for the first time since before World War II. Thus Chinese demand is increasing significantly and it is likely to increase exponentially.

It is important to remember that similar predictions of slowing Indian demand creating a top in the gold price were spoken of when gold reached $500, $600 and $700 per ounce. While Indian buyers are more price sensitive than many gold buyers they have readjusted to higher prices in recent years and demand has continued to increase in recent years despite the surging gold price. Thus, they are likely to become buyers again on any dips in the gold price and should thus provide an important foundation or floor to the gold price on corrections.

FX
Dovish comments from ECB members weighed on the euro across the board yesterday. The single currency fell against the Greenback from a high of 1.4860 to a low of 1.4590. The 1.4570 level should prove to be supportive with a breach of this level setting up a retracement to the December low of 1.4310.

Against sterling the euro does appear to be in a corrective phase as predicted after its recent aggressive move up to the recent high of 0.7613. Currently this currency pair is trading at the 38.2% Fibonacci retracement level at 0.7421 and could find support here ahead of the next assault attempt at 0.7700.

Traders took the opportunity to book profits in USD/JPY as it traded below 106.00 for the first time since the middle of 2005 and this took USD/JPY back up to 108.00. This rally could prove to be short lived and a move back below 107.40 could set up the next move lower targeting 102.00 over the medium term. This coupled with the weakness towards the euro will surely weigh on EUR/JPY and this currency pair looks also set to move lower over the short to medium term.

Support and Resistance

Support is at yesterday's low of $875 and should we breach that, there is further support at $860 and then there should be strong support in the $840 to $850 range which was previous resistance.
Gold is likely to remain above $840 and given the macroeconomic climate, $1000 will be reached sooner than many market participants expect.

Silver
Silver is trading at $15.79/$15.81 at 1200 GMT and it has also consolidated near the lows from the New York close yesterday. Support is at $15.70 which may be breached and below that at $15.30 and $15.00. Silver will remain volatile as ever but the long term fundamentals remain very sound. Predictions of an significant increase in mining supply in the short term are likely to prove erroneous.

PGMs
Platinum was trading at $1560/1566 as per above (1200 GMT).
Palladium was trading at $369/374 an ounce (1200 GMT).

Oil
Oil is largely flat in European trading after yesterday's flat day and NYMEX light sweet crude oil (FEB08) was trading at $90.87 a barrel.

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