Central bank hawkishness clobbers gold, but rally could yet revive
More hawkish signals from most of the world’s leading central banks has somewhat pulled the rug from under gold prices and suggests the yellow metal is set for a long bear market, but that is far from a foregone conclusion.
Rising interest rates and bond yields often bode badly for gold prices as it makes holding the asset more expensive and less attractive than alternative investments.
Central banks face a daunting task if they’re to successfully unwind nearly a decade of unconventional monetary policies with plenty of market volatility to be expected if they’re determined to see those intentions through. Even the US Federal Reserve, the most advanced in terms of normalising monetary policy amongst the majors, still faces the herculean task of unwinding $4.5 trillion of bond purchases – if that’s even possible.
The Fed is supposed to raise interest rates one more time in 2017, but following some dovish comments from its officials and signs that US retail sales may have plateaued despite apparent full employment, has cast doubt on that notion. Meanwhile the IMF revised down its 2017 growth forecast for the US economy from 2.5% to 2.1% given doubts over the administration’s stimulus policies ever materialising.
There has also been a big build up in student debt to $1.3 trillion from $531 billion in 2006, it even surpasses credit card debt (but smaller than the $8 trillion US mortgage market), and there are concerns over auto loans worth around $1.1 trillion as sub-prime has grown a lot in this segment and the length of loans keeps getting longer in a bid to keep the market for new cars alive, which appears to be struggling. This could signal problems for the US economy and also of importance is whether loan delinquencies start to rise significantly with student and auto loans looking particularly vulnerable.
Meanwhile, the European Central Bank (ECB) is expected to talk about tapering its massive quantitative easing programme in September. The ECB faces a particularly delicate task of managing an exit from QE as it must do so without unduly pressurising yields on peripheral bonds higher and accidently trigger another Eurozone crisis.
Then there’s the Bank of England, which has been humming to the same tune, despite the UK’s scheduled exit from the EU in March 2019, which could have negative short- to medium-term ramifications for the economy. This might be averted if a favourable trade deal or transition arrangement is negotiated with the EU and at the moment there’s little sign of either happening.
It’s possible that the global economy is in quite a good place and that central banks will be able to make a relatively orderly transition to more normal monetary policies.
3 reasons to be cheerful about gold:
1/ Global debt is at a record $217 trillion, up from $68 trillion in 2007 suggesting the modest economic growth that has taken place since the 2007-9 global financial crisis, has largely been on the back of ultra-cheap money and fiscal stimulus. Higher interest rates are therefore very likely to trigger a global recession as money is taken out of the economy to pay bigger interest rate bills meaning that central banks may have to drop their plans to normalise their monetary policies within the next 6-12 months.
2/ The eight-year stock market rally has been significantly helped by cheap money and a vicious bear market or crash would spook central bankers and likely send investors rushing for alternatives such as gold. This could happen at any time.
3/ The world still seems to be in the shadow of deflationary forces namely ageing populations, a drag on consumption, disruptive technologies, over-capacity in many industries and unsustainably high-debt levels. These are long-term fundamental trends will weigh on the global economy for decades posing huge challenges for policy makers and society and suggest lower than normal interest rates for a prolonged period.
Also, there is little sign of soaring wages despite near full employment in several leading economies and commodity prices look relatively tame.
Gold may have further to fall; indeed, the bulls have been giving up and short sellers have become bolder (this could trigger short-term rallies), but a big rally could be in the wings, particularly if central bankers have over-estimated the strength of the global economy and are forced to revise their plans on exiting their un-conventional monetary policies.
The key long-term support levels versus USD traders should keep an eye on are: 1,195-9, 1,181-8, 1,158 and 1,122-8. Key long-term resistance levels that need to be cleared for a sustained rally are: 1,269-70, 1,280, 1,287-96 and 1,306-8.
By Justin Pugsley, Markets Analyst MahiFX