Last week, the U.S. dollar reached its 13-year high. What does it imply for the gold market?
The divergence in the monetary policies conducted by the Fed and other major central banks led to the appreciation of the U.S. dollar in the recent years. The end of the quantitative easing at the end of 2014 has particularly strengthened the greenback, which was bad for the gold market. In the first half of 2016, the U.S. dollar eased, which enabled the yellow metal to rally. The second half was much more positive for the greenback and negative for bullion. And, as one can see in the chart below, after the presidential election the U.S. dollar surged, hitting a 13-year high on Wednesday. As there is an inverse relationship between the greenback and the shiny metal, last week was not good for the gold market.
Chart 1: The U.S. dollar (blue line, left axis, Trade Weighted Broad Index) and the price of gold (red line, right axis) from November 2006 to November 2016.
Why the U.S. dollar rallied? First of all, investors were bidding up the American currency on account of rising real interest rates. The Treasury bond yields increased from historic lows due to markets’ hopes that the Fed will hike interest rates under Trump’s administration. Tax cuts, boosted government spending and deregulation are expected to accelerate economic growth, which is bullish for the U.S. dollar. With such a policy mix, the divergence in monetary policy between the Europe and Japan on the one hand, and the U.S. on the other hand should only widen, supporting the greenback.
What will the stronger U.S. dollar imply for the gold market? Well, nothing good. The strong greenback and rising real interest rates are fundamentally bearish for the shiny metal. However, it is worth pointing out the gold’s relative strength to the USD’s price moves, as one could expect much worse performance in the light of the greenback’s strength (we analyze these issues in more detail in our in our Gold & Silver Trading Alerts).
Surely, markets seem to be a little too optimistic on Trump’s economic policy and its impact on the U.S. dollar. When investors scale back their expectations, the U.S. dollar may weaken, which would be positive for the gold market. Yesterday, the U.S. dollar index fell back from the last week high. However, the current market sentiment is negative for the gold market and the stronger dollar and higher real interest rates should continue to be a headwind for precious metals markets, at least until markets do not change their minds about the impact of Trump’s policies and the steeper path of the Fed’s interest rates.
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Disclaimer: Please note that the aim of the above analysis is to discuss the likely long-term impact of the featured phenomenon on the price of gold and this analysis does not indicate (nor does it aim to do so) whether gold is likely to move higher or lower in the short- or medium term. In order to determine the latter, many additional factors need to be considered (i.e. sentiment, chart patterns, cycles, indicators, ratios, self-similar patterns and more) and we are taking them into account (and discussing the short- and medium-term outlook) in our trading alerts.
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Arkadiusz Sieron
Sunshine Profits‘ Gold News Monitor and Market Overview Editor
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