Terrorist attacks upset forecasts

It now seems a long time ago that market commentators debated whether a recovery was to take place this year or next; it seems a long time ago when each piece of economic data out of the U.S. was eagerly awaited. The momentous and horrific events in that country last week have forged a chasm and a division into the time scale of the current economic environment.

The potential implications of the Sept. 11 terrorist attack are numerous and far-reaching. The attack itself destroyed a landmark; in doing so, however, it will become a landmark itself to the extent that throughout the duration of the current economic cycle, the period before the terrorist attacks in the U.S. will be forever distinct from the period that follows it.

In the immediate aftermath, it is impossible to determine, with any clarity or precision, what the consequences will be. Until Sept. 11, it was thought that consumer spending in the U.S. would be strong enough to lead the economy away from recession and return it to a stable, expansionary path. Previous forecasts, however, now look inconsequential and remote. We are now working with conditions that have been wholly altered in a short period of time. While it is not possible to say how previous expectations will change, it can be said, without doubt, that they will change. The recognition of this fact was realized quickly during the report period Sept. 10-14 as a sense of inertia and impotency governed sentiment in London markets. While this clearly reflected the absence of the U.S. markets, it is also symptomatic of the vacuum left behind by these events as security is replaced by uncertainty and steady economic trends are replaced by unexpected shocks.

Against this background, markets barely managed a semblance of normality as low volumes led to illiquidity, and events that usually focus attention keenly, such as data releases, a Bank of England gold auction and European Central Bank interest rate decisions passed by quietly. Prior to the attacks, U.S. markets were already suffering from a lack of confidence and reflected concerns that the U.S. economy would be unable to recover convincingly. These same, uncertain markets now have to re-face these conditions, as well as absorb the added uncertainties caused by these attacks and their potential political ramifications. A collapse in confidence would undoubtedly leave metals prices exposed to further selling by speculative funds while the negative impact on industrial activity and business investment would harm fundamentals.

The copper market remained quiet and was characterized by nervousness and illiquidity. Although some speculative funds and commodity trading advisors were initially spooked into panic short-covering, the lack of volume and lack of certainty restricted directional moves. Another bout of nervous short-covering on Sept. 14 moved prices to US$1,460 from US$1,440 per tonne. However, prices remain at an uncertain junction and could go either way, depending on developments in the U.S.

Aluminum is in a similar position following a week in which prices followed a trading pattern identical to that of copper: initial short-covering on Sept. 11 and 12, price retracement on Sept. 13 and a further wave of short-covering on Sept. 14. Despite these movements, it is important to remember that trading bore the faintest resemblance to usual conditions. Until it becomes clear how the U.S. markets react to recent events, short-term direction in aluminum prices will be difficult to assess.

Nickel has been vulnerable to short-covering since the end of the second quarter, given the downward pressure prices have faced from speculative fund selling and low stock levels. It is not surprising that short covering in copper and aluminum, together with the general sense of displacement, resulted in spikes on Sept. 11, 12 and 14. Under normal circumstances, the close on Friday, Sept. 14, above the 10-day moving average would be an encouraging sign; under current conditions, however, it can be taken only as a sign of nervousness and uncertainty.

Zinc prices had regained some calm by Sept. 14 and, in the short term, will likely take its cue from the base metals complex as a whole and the behaviour of U.S.-based funds. With no clear news emerging from China that production cutbacks are to take place, it is difficult to see how zinc’s downtrend can be halted. Further waves of financial panic could theoretically lead to higher prices as funds cover their short exposures. On the other hand, with downside risks obvious in the U.S., the chances of a recovery in zinc seem slim.

The terrorist attacks show that despite the process of “commoditization,” the gold market has undergone over the past 20 years, there remain clear differences between the role and reactions in base and bullion markets.

It remains too early to judge, with any certainty, the impact these events will have on the yellow metal. The direction gold takes in the short term and beyond will depend solely on whether it is still viewed as a safe haven for international funds, on whether it remains a secure store and protector of monetary value in times of crisis. This, in turn, will be determined by the degree to which investors seek a safe haven. One determining factor here will be the reaction of the investment markets that have deprived gold of its role over the past two decades. If there is a crisis of confidence in these markets and investment instruments, a flight to security could result in higher gold prices.

A second determining factor will be the reaction of the U.S. and its allies. At this juncture, the form of retaliation and its consequences remain in the realms of speculation and debate. If retaliation, in whatever form, gives way to a prolonged transition into a new world order in which political instability and national insecurity become dominant themes, confidence in the efficient workings of financial markets will be undermined. The degree of this erosion of confidence will, in turn, determine the degree to which gold may resume its role as a safe haven in times of crisis. And this, in turn, will determine the degree to which gold prices will be affected by the very human tragedy of Sept. 11.

— The opinions presented are solely the author’s and do not necessarily represent those of the Barclays group.