The Gold Price: Key themes and mid-year outlook

What has happened to gold?

The first six months of the year has seen Spot Gold balancing inflation expectations against the path of monetary policy in the world’s largest economy (US). While an initially softer dollar and stimulus efforts have been supporting the precious yellow metal, whose relationship with US Treasury yields remains largely inversed, a sudden more ‘hawkish’ than expected US Federal Reserve has prompted a small spike in yields, firmer dollar and in turn a year to date decline of roughly 7% for the commodity.

The above chart highlights how movements in the dollar basket or dollar index (black line) have been exaggerated by gold (yellow line) in the opposing direction over the course of 2021 thus far.

A more hawkish Fed

Minutes from the last (June 2021) Federal Open Market Committee (FOMC) meeting have shown the central bank to have moved to a more ‘hawkish’ stance. The Fed who are currently buying $80bn in bonds and $40bn in mortgage backed securities monthly, have said that they would look to open discussions pertaining to scaling back (tapering) these stimulus efforts should evidence of a sustained economic recovery manifest. Furthermore, policymakers have suggested that lending rates could rise twice by the end of 2023, earlier than what has been communicated previously. The news of possible tighter monetary policy to follow, has catalysed the renewed dollar strength which has weighed on gold.

The Federal Reserve Bank does however have two key mandates to follow i.e. maximise employment and stabilize prices (inflation).

Inflation

Gold often suggested to be a hedge against inflation has perhaps underperformed expectation this year against a ‘reflation’ trade assumption. US Consumer Price Index (CPI) data has run well ahead of the 2% targeted by the Federal Reserve. It is perhaps the markets expectation of inflation guiding to tighter monetary policy which has been counter intuitive to gains in gold. However Federal action to mitigate excessive inflation is cautioned by the groups mandate to support growth and realise maximum employment.

Employment

The Fed has guided that employment remains a bigger concern than inflation at this point. Total employment remains below pre-pandemic levels with policy makers looking to get the unemployment figure down from 5.8% currently, to around 4.5% in future. Tightening monetary policy too soon would pose a risk to economic growth and employment.

The outlook for gold

As outlined, the path and timing of monetary policy remains a key theme for gold. While the early stages of tapering stimulus and hiking of interest rates have been suggested, they do still appear still to be on a distant horizon. Lending rates should remain unchanged for at least two years although scaling back of stimulus efforts will come sooner.

The below graph highlights where Federal policymakers see benchmark lending rates over the coming years. Each dot is representative of a members view of where rates will be in 2021, 2022, 2023 and in the longer run. The black dots highlight a median of these estimates.

The fate of the dollar and gold will in turn be data dependent with particular emphasis being on employment, growth and inflation. Expectations for inflation are now forecast higher in 2021, although the rise should be temporary. The recover in employment has also started to slow as noted by the Federal Reserve.

Rates are expected to remain low for some time which will aid opportunity costs for gold. The recent decline in gold could also see renewed appetite for investment in the precious yellow metal which always finds place in a balanced diversified portfolio. While conditions remain conducive to equity markets, valuations over the near term do appear high on a relative basis. The probability of a market correction does increase as valuations stretch further. Any equity market shock is likely to support at least a short term rebound in gold.

For the time being we remain cautiously bullish on gold over the long term, with current levels and even lower perhaps providing favourable entry opportunity for those with a more distant investment time horizon.

Gold: Technical Analysis

The above weekly chart of dollar denominated gold shows the long term trend to be up. Over the shorter term we have seen a correction back towards trend line support. The correction has moved the commodity into oversold territory.

The oversold signal at trend line support suggests that we could see a rebound in gold and continuation in uptrend. 1915 would be the initial resistance target from these assumptions. 1670 marks a major low. Should the price of gold instead continue to correct and start trading below this level it would suggest our bullish assumptions to have failed and the longer term uptrend would need to be reassessed.