Will Another Round of LTRO Send Gold and Silver Higher?

Wall St. Cheat Sheet

Last week, gold and silver finished at their highest levels all year.  Gold settled at $1,776.40, while silver surged 6.4 percent to close at $35.34.  The recent rise in precious metals has been long overdue, but the dollar’s decline against the euro certainly contributed to the move.

On Friday, the euro closed above $1.34 for the first time since December, when the European Central Bank launched its Long Term Refinancing Operation.  The program provided 523 separate European banks with 489 billion euros in the form of three year loans at one percent.  This flood of back-door quantitative easing has been credited with easing funding concerns in the euro zone.  Although liquidity injections may work in the short-term, it does not provide a long-term solution to the insolvency problem facing nations.

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In a February letter to investors, legendary silver investor Eric Sprott explains the dangerous reliance on the LTRO program.  Sprott writes, “Consider the implications of the ECB’s LTRO program: when you create a loan program to save the EU banks and make its participation voluntary, every one of those 523 banks that participates is essentially admitting that they have a problem. How will they ever lend money to each other again? If you’re a bank that participated in the LTRO program because you were on the verge of bankruptcy, how can you possibly trust other banks that took advantage of the same program? The ECB’s LTRO program has the potential to be very dangerous, because if the EU banks start to rely on the loans too heavily, the ECB may find itself inadvertently attached to the broken EU banking system forever.”

The first LTRO program ignited gold and silver to what stands to be a record breaking year for the precious metals.  Although the S&P 500 has gained 8.8 percent year-to-date, gold prices have increased 13.3 percent.  Even more remarkable, silver prices have surged nearly 27 percent.  Gold and silver are both nearing strong resistance levels, but another round of back-door easing could easily push prices higher.

The ECB on Wednesday will once again offer banks an unlimited amount of cheap three year loans.  Various sources believe the second LTRO to range from 100 billion euros to more than 1 trillion euros.  A recent poll by Reuters shows that economists believe banks will take 492 billion euros from the ECB, similar to the offering in December.  Another survey by Goldman Sachs places the amount in the 500-750 billion euro range.  “I don’t expect this operation can solve all the problems, but hopefully it will take us past the worst point of the crisis,” said Riccardo Barbieri, chief European economist at Mizuho International in London.

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If Wednesday’s LTRO satisfies the market and sends the euro higher, gold and silver are also likely to climb higher.  However, the importance of this week’s LTRO is not necessarily the total, but the example that the credit crisis is far from being solved.  Furthermore, central banks are still willing to pursue quantitative easing and bailouts in order to extend and pretend the current financial system.  Even major U.S. banks are accepting this fact.  “While we may have avoided a broad credit crunch, the ‘Great Deleveraging’ in Europe seems far from over; history suggests that European banks have a long way to go and the LTRO will slow but not stop the process,” analysts at Morgan Stanley said in a report.

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To contact the reporter on this story: Eric McWhinnie at staff.writers@wallstcheatsheet.com

To contact the editor responsible for this story: Damien Hoffman at editors@wallstcheatsheet.com