LAWRIE WILLIAMS: Gold one step forward, two back post Fed rate decision
Gold bulls no doubt breathed a sigh of relief over gold’s initial reaction to Wednesday’s Fed interest rate decision, but the relief lasted around 20 hours before a dollar surge cut gold down to size – at least in US dollar terms. Gold fell back to around the US$1050 an ounce level, and could be ripe for a further take-down unless someone – perhaps China – jumps in to stem the rot. Gold did recover a little overnight and has been trading in the mid $1050s so far today. Yesterday’s afternoon LBMA price in London was set below $1050 for the first time since 2009 and it is possible stop loss computer trades will be coming if it drops below this kind of level which could knock it back further but downside in percentage terms remains limited at these kinds of levels.
In many ways gold’s post Fed interest rate decision performance might have been seen as somewhat predictable in the light of its price movements around previous FOMC statements, although perhaps this time is special given the Fed at long last did decide to start raising interest rates. What was perhaps more surprising had been its moves ahead of the Fed statement – put down by analysts to short covering.
General equity markets also took time to be affected by the possible fall-out from the interest rate raising decision. Initially there was what seemed to be an euphoric rise – although on what grounds we are uncertain. But the Dow and S&P then came off sharply yesterday as the ramifications of the strengthening of the dollar began to be understood. Asian markets also came back overnight and European ones looked to be following suit today, although in a pretty limited manner so far. The U.S. manufacturing sector is seemingly weakening by the day, and that dependent on export earnings has already been suffering from a strong dollar and today’s uplift will not have done it any favours. Nor will it have helped the services sector.
The strong dollar also means that imports become more competitive which deals another blow to U.S. domestic producers – which is another good reason for equity market weakness. The Fed will obviously be keeping a close eye on what is happening, and will continue to happen, following the rate increase. There’s a strong body of opinion out there that feels that not only will the Fed have to curtail subsequent rate increases, but perhaps even backtrack on its initial one if the markets react badly, which could yet happen. Any hint of this occurring would likely be gold positive.
We have commented before on physical gold’s seemingly good fundamentals – continually rising demand in Asia and the Middle East and dwindling available inventories in the West, but the price seems to be very much a dollar and paper play at the moment. In theory, rising U.S. interest rates should lead to dollar strengthening, although the Fed may not be keen to see this and may try and surreptitiously control the dollar index – not easy when much of the world is bordering on recession - a situation which could be exacerbated by a rising greenback. The key may be the Euro and with EU balance of trade figures being rather better than those of the U.S. there is a possibility that the Euro will itself do better than many analysts reckon despite current European policies to keep interest rates low to negative. China, with its indication of allowing the yuan to drift down further, is a further complication which the Fed will need to take into account.
So where are we with gold at the moment? Unlike many analysts we don’t see it falling much further although there is the potential for some further short term weakness. We think fundamentals will increasingly come into play in 2016 because of the western gold inventory situation and continuing Asian and central bank demand, while the low prices may begin to start to bring down global new mined gold production at last. Any potential fall-off in this had been partially countered by the fall against the dollar of the local currencies in most gold producing nations which is why closures due to properties becoming uneconomic have not been as severe as most analysts anticipated. However new mines and expansions already in the pipeline when the price started to decline are now fully up and running and any new ones have been pretty much put on hold, while mines are depleting assets so declining grades and closures as ore reserves run out will be beginning to take their toll. Sooner or later all this will impact on the price and that could well begin to happen in 2016 and lead to a gold price reset by the second half. Maybe this is being too optimistic on gold, but resource prices have tended to run in cycles since time immemorial and maybe we are approaching the end of a short downcycle in the gold price. To this writer things are pointing this way, but trading sentiment remains negative and so far paper trades have trumped fundamentals and there’s certainly the possibility that this will continue until there is a total change in perception by those actually setting the price.