Futures & Commodities

Goldman Sachs: Short gold on market 'overreaction'

Key change in gold sentiment: Strategist
Key change in gold sentiment: Strategist

Hefty stock market plunges this year have not been justified, according to commodity analysts at Goldman Sachs, who are urging clients to short gold which has found favor during this period of fear and volatility.

"Systemic risks from oil, China and negative rates are very unlikely," a team at the bank, led by Jeffrey Currie and Max Layton, said late Monday.

"Banks have ample liquidity to maintain funding against higher capitalization, the negative macro impacts from low oil prices have likely already played out and are not systemic while the spillovers from China are limited and the U.S. is far from recession."

A gold worker holds a 1 KG gold bullion at Istanbul Gold Refinery (IGR).
Ozan Kose | AFP | Getty Images

The bottom line from the note - which gave a nod to Franklin D. Roosevelt's famous line "We have nothing to fear but fear itself" - was that financial markets have overreacted and gold prices would soon retreat after solid gains this year. It also stated that there's currently just a 15-20 percent chance of a U.S. recession being around the corner.

Bullion has risen 13.5 percent year-to-date and is traditionally seen as safe haven like U.S. Treasurys. Investors have flocked to these small pockets of safety amid Chinese growth fears, stress in the U.S. energy sector and concerns over fragile balance sheets in European financials.

Last Thursday, the precious metal jumped more than 5 percent to a one-year high, completing its best day for seven years. However, it has since fallen back to around $1,200 per troy ounce and Goldman believes that it has more room to fall.

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"We maintain our view of rising U.S. rates and hence lower gold prices with a 3-month target of $1,100 (per troy ounce) and 12-month target of $1000 (per troy ounce)," the note said.

"We are recommending shorting gold through a GSCI-style (Goldman Sachs Commodity Index) rolling index," it added, highlighting that traders should try to maintain a position with constant maturity.

The analysts also tried to shine a light on Chinese demand for the commodity which many predict will keep a floor under the price. Goldman Sachs said that physical demand from the world's second-largest economy was mostly in jewelry form "which is residual demand that is extremely price sensitive" and suggested a price rise would lead to a sharp slowdown in demand.

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China will also continue to be a net seller of U.S. Treasurys, according to the investment bank, which will further weaken bullion - which has a negative correlation with Treasury yields.

The release of this analyst note was itself a reason behind gold's fall on Tuesday morning, according to commodities investor Dennis Gartman. He said he disagreed with its predictions and remained "reasonably impressed" that gold hadn't fallen further on Tuesday alongside a rally in equity markets.

"We see the equity market rally as ephemeral in nature… a corrective bounce and very little more… and we suspect that capital shall instead be coming out of the equity market and flowing into gold instead," he said in a morning note. Gartman has more exposure to gold priced in the or the euro, rather than the U.S. dollar.