Spot gold (XAUUSD) prices are on course to post their best weekly performance in over two months, with XAUUSD looking to close the week with gains of about 1.5% near the $1830 level, having started the week closer to the $1800 level and even at one point been as low as $1792. The precious metal had spent much of the week meandering around the $1800 level in anticipation of the FOMC rate decision on Wednesday, with a persistently strong bid in the US dollar prior to the important central banking event preventing gold prices from taking advantage of a fall in US real yields to fresh record lows.
However, with the FOMC out of the way, the US dollar bears got the green light to jump in and push the buck lower. The Dollar Index (DXY) is down about 0.75% versus its pre-FOMC levels above 92.50, not so much because there was anything dovish from the Fed, but more because, amid the fall in US real yields in the proceeding session, the opportunity cost of holding USDs had risen, but had not yet been reflected in the price. With the DXY now down under the 92.00 level, it appears that the dollar is finally reflecting this drop in US real yields. This has unsurprisingly proven a bullish combination for gold; 1) gold prices are inversely related to USD, given when UDS appreciates, it makes dollar-denominated gold more expensive for international purchase, 2) gold prices are inversely correlated to US real yields because as they fall, the opportunity cost of holding non-yielding gold goes down. With the DXY on course for losses on the week of over 1.0% and US 10-year TIPS yields (this is the inflation expectation adjusted yield on the US 10-year bond) down about 10bps on the week to record lows under -1.15%, it’s no surprise gold is up about 1.5%.
Perhaps the real surprise is that gold has not moved even higher given the size of the moves in the dollar and real yields this week. One explanation could be the fact that XAUUSD has run into some pretty strong levels of resistance yesterday and today in the form of the earlier July high at $1834 and the 50DMA at $1830. This area of resistance marks the top of the $1790 to $1830ish range that spot gold prices have spent most of the month within. Technicians might be inclined to take the fact that spot gold prices have failed to break above this range as a bearish sign heading into August.
Another explanation could be the fact that, though some upside in gold to reflect short-term movement in real yields and the US dollar might be justified, investors may be reluctant to pile into long gold positions with more conviction given their economic/macro-outlook. Though this week saw some turmoil in Chinese financial markets and though questions still linger about a slowdown in growth in China, a reduction in fears about the economic impact of the spread of the delta variant in highly vaccinated developed countries (such as the UK, US and EU) is seemingly keeping confidence in the prospect of a continued economic recovery in developed economies elevated.
Indeed, the message from the Fed this week certainly was not a dovish one; the bank’s view on the economy as portrayed in the new statement on monetary policy and in Chairman Powell’s press conference became, as expected, incrementally more hawkish to reflect the progress towards the Fed’s monetary policy goals since its last meeting in June. On the face of it, the tone of the FOMC on the economy and the implication that an official announcement of the bank’s plan to begin tapering its QE programme is approaching does not at all justify the “dovish” market reaction (which includes upside in gold) that has been seen in over the past two days.
In an environment where the US economy is continuing to make solid progress towards the Fed’s dual mandate goals (actually, the inflation goal has been more than already met, but employment levels are still some ways below pre-pandemic levels), it is perhaps not surprising to see gold prices struggle to rally with as much conviction as the bulls might like. Indeed, continued US economic recovery and eventual monetary policy tightening ought eventually to lead to higher nominal and real US bond yields, which is bearish for gold, and is likely to also push the USD higher (also bearish for gold) if the US economy is outperforming other major developed market economies like the Eurozone and Japan (which it is very much expected to do) and the Fed is subsequently tightening monetary policy at a faster rate than them.
In terms of what this all means for the near-term outlook for spot gold prices; the above environment comes into fruition, this suggests gold prices may continue to post lower highs and lower lows as it fluctuates over the coming months, as has been the case for the most part since this time last year. But in the short-medium term, gold traders will need to keep their eyes firmly pinned on what is happening to the DXY and with US real and nominal yields to derive intra-day/week direction.