Gold Investors have been shortchanged for the past several years, as the bullion has taken a dive from the $1920.80 highs, put in place in 2010, all the way down to the $1061.00 lows set earlier in 2015. A bevy economic events have placed pressure on the yellow metal. Tough measures by the India’s government to curb gold imports, global central banks as well as China lightening up on holdings/imports amidst an economic slowdown, an increase in COMEX exchange gold future margins to $9350/contract from $3666 in 12 rapid SPAN actions, low inflation levels globally, massive ETF outflows, and a strengthening US Dollar have all acted as major factors that have guided prices lower, in prior years.
Recently gold has popped-up off its lows and retraced to a twelve handle, trading as high as $1260 just last week. While it may be early to label the current price action as a trend and it is certainly premature to re-brand gold’s safe haven status, it has been noted by market participants that these recent moves have occurred in the face of US Dollar strength and China growth concerns, which for years now, have caused adverse price movement.
The Fed hiked the Federal Funds Rate for the first time since the 2006 at their Dec 16th meeting, in 2015. The Fed has communicated that the glide path for interest rate increases, during this hike cycle, will be gentle. Market participants are currently not anticipating rapid “shock-and-awe” policy out of the Fed.
Investors are beginning to look for re-allocation, as US stocks pull back. The US Dollar, Treasuries, and gold have traded up, off the 2015 lows. Traders continue to weigh the impact of low inflation levels due to transitory factors such as US Dollar strength and low crude oil prices, on the likely path for interest rate moves. It will be sometime before markets accept that the Fed has a true conviction to move rates much higher, in accordance with the Fed’s current rate projections. There still exists a disparity between Fed rate forecasts from Fed officials, “the dots” released quarterly after Fed meetings, and the current short-end of the yield curve. The negative correlation between US equities and gold has strengthened since the beginning of 2016, in line with an advancing gold price, and the re-allocation trade out of Stocks into safe haven assets.
Looking to past interest rate hike cycles, gold has maintained a solid bid, during the beginning of past hike campaigns. Turn downs in the US unemployment rate (improvements in the labor market conditions) has lead gold higher, before rates have moved, as market participants began to formulate expectations for the impending hike cycle to come. However, this has not yet been paralleled during the current cycle, as traders continued to doubt the Fed’s interest rate glide path. It seems as though, this time around investors, have been hard pressed to buy into the Fed’s rhetoric and uncertainty with regard to “zero-rate” policy until recently, as stocks hit all-time highs in 2015. This has changed since the since the summer, as the Fed initiated its first hike and China’s growth came off. Equity investors have gotten cold feet as US stocks turned down and put in a low of 1802.00 off of the 2075.00 close for the year of 2015. Gold however has traded up to a high of $1263.00 well above the $1046.00 low set at the beginning of 2016. Gold has continued to show strength this year despite the Fed hike and a persistently strong US Dollar.
Inflation has lagged Fed interest rate actions consistently. History, however, has demonstrated an emphasis on the employment half of the Fed’s dual mandate as taking precedence, initially. As past cycles have pressed forward and rates reached high levels, inflation became the primary driver of further increases in the Federal Funds Rate and high interest rate sustenance. Management shifted to the other half of the Feds mandate, price stability. That stage of the cycle, past the initiation and towards the peak, has been supportive of higher gold prices in prior years.
As it stands currently, the market remains at the foot of the hike cycle and Inflation has been benign-to-non-existent, the unemployment rate has hovered between 4.9-5.1% since September of 2015, and the Fed has emphasized that further policy actions will be data dependent while providing guidance in favor of a gentle interest rate glide path going forward.
It may be sometime before inflation ticks higher and emphasis swings towards the Fed’s price stability mandate. Transitory factors, namely low crude oil prices and a strong US Dollar have proven to be persistent amidst OPEC’s inability to reach an agreement on output levels and the safe haven bid on the US Dollar as investors reach for the re-allocation trade.
While the economic situation during hike cycles are never truly identical, gold may benefit in the near term and firmer prices will be anticipated as the hike cycle rolls on. A “gentle” Fed glide path may help perpetuate history repeating itself, though a significant and sustained rally in the gold market may require inflation to truly lead the path forward, above and beyond the current jitters observed in allocation flows.
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