Gold prices ended last week up nearly $10/oz (+0.7%) despite the Fed signalling an end to its “insurance” easing cycle and the October US employment report coming in much better than expected.
Both China and Germany reported better-than-expected trade data, but the impact on markets appeared to have been offset by some mixed news regarding the rolling commentary on prospects of a forthcoming US-China trade accord. China’s year‑on‑year imports and exports for October were less negative than forecast at ‑6.4% and ‑0.9%, respectively, in US dollar terms.
Looking at the major drivers, despite the double whammy of more hawkish developments, US 10 yr nominal yields decreased more than 8bp on the week with 10 yr real yields declining only around 2bp given a more than 6bp fall in 10 yr breakevens as well.
While Gold’s front month ATM vol fell sharply over the past week by almost 2 vol points while the spot price edged up slightly but the short-term trend looks edgy. Since we still carry bullish stance and have a price upside target of $1,600+ and 1800 per ounce for gold by 4Q’2020 and since the spread between the 1Y 10 Delta Call implied vol levels and the 1Y 25 Delta Call implied vol levels remains close to 10-year highs (with a spread of approximately 5 vols) we continue to recommend buying a 1Y, 25 Delta – 1Y, 10 Delta call spread.
That is, we would buy 1Y 25D gold calls at 18.4 vols and sell 1Y 10D gold calls at 21.6 vols, indicatively. Alternatively, since we expect long term vol to rise and since our short term(1M ATM) vol signal is not showing a buy vol bias, we would also consider buying 3M x 9M FVAs. Courtesy: JPM