European Rate Hikes Hit Gold

The threat of more tightening and lower oil prices weigh on the metal.
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Updated from 12:01 p.m. EDT

The metals complex hit the skids Thursday as the European Central Bank and the Bank of England both hiked key short-term interest rates a quarter of a point, raising the cost of borrowing euros to 3% and pounds to 4.75%.

Most analysts are looking for one more 25-basis-point rate hike by the ECB before the end of the year, notes Mike Rapson in a daily research brief from commodity brokers Man Financial. That is expected to keep downward pressure on the dollar, which should be bullish for gold. The greenback held up surprisingly well early Thursday, although the euro was recently at $1.2809 vs. $1.2787 late Wednesday. The dollar was up vs. the yen, at 114.94 vs. 114.61.

The dollar strength sent contracts for December gold tumbling $7.30 to close at $656.80 on the Comex division of the New York Mercantile Exchange, or Nymex. The yellow metal also seems to be tracking oil, often viewed as a primary driver of inflation, which was recently trading down 36 cents at $75.45 a barrel as concern over Tropical Storm Chris eased.

Shares of the bullion exchange-traded funds

iShares Comex Gold Trust

(IAU) - Get Report

and

streetTRACKS Gold Shares

(GLD) - Get Report

were sliding in line with metal prices.

Also out Thursday was news that gold miners reduced their gold-hedging programs to 43 million ounces (1,300 tons) in the second quarter, a drop of 11%.

"Despite the gold price hitting 25-year highs during the quarter, there were no significant moves by mining companies to take advantage and lock in prices," states the Mitsui Gold Hedging Report, which was published before the market opened.

The research identifies gold miners

Barrick Gold

(ABX)

and

AngloGold Ashanti

(AU) - Get Report

as the two biggest de-hedgers and says it marks the "largest percentage fall in

gold hedging ever."

When companies unwind futures contracts, they typically either buy back contracts on the spot market or let existing positions roll off without initiating new ones. The news of unwound futures positions is often viewed as negative, because once they are eliminated, there is less potential buying power in the market. However, there are other factors at play.

"Will it make other companies de-hedge?" asks Matthew Turner, a commodity analyst at London-based Virtual Metals, who authored the Mitsui-sponsored report. "That's probably the important question."

Looking more broadly, Turner notes that the prospect of central bank sales of up to 170 tons may weigh heavily on the market through September. He cites a multiyear 1999 agreement, which allows monetary authorities in Europe to sell up to 500 tons of gold each year.

Member banks, which include the ECB plus Switzerland, the U.K. and Sweden, still have 170 tons of their allowance unsold and have never not sold the maximum, Turner says. But they cannot carry their allowance beyond Sept. 26, and with Comex open interest at 740 tons currently, government sector sales could swamp the market for the next few weeks.

Depending on how the central bank liquidation plays out, Turner remains bullish for gold as a weaker dollar and a testy Mideast situation will likely push prices higher longer term.

Shares of gold miners

Newmont Mining

(NEM) - Get Report

and

Freeport-McMoRan Copper & Gold

(FCX) - Get Report

were down in line with metal prices. Not even Barrick Gold's record results, posted Wednesday, could halt the impact of the sector rout, and shares were recently down as well.

In base metals, copper was also trading down, seemingly unaffected by the latest worker rejection of a management contract proposal at Chile's Escondida copper mine.

"I think the market will take its clues from what the

Fed

says when it meets Tuesday," says Rapson, who says copper-futures traders will likely stay on the sidelines until then.

Comex September copper contracts closed down 10.2 cents at $3.4890 a pound after late session selling weighed heavily on the market, and shares of U.S. copper giant

Phelps Dodge

(PD) - Get Report

were marked down, slipping 2.1% recently.

Mining giants

Rio Tinto

(RTP)

,

BHP

(BHP) - Get Report

and Brazil's

Companhia Vale do Rio Doce

(RIO) - Get Report

were bucking the general trend, trading slightly higher.

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