The trend in the US dollar has been one of the key pricing factors for gold, and the relationship remains intact as market players try to gauge the Fed’s monetary policy stance.
The US Dollar index rose sharply last week and tested a 1-month high. The US dollar index rose amid ongoing debate about the Fed’s monetary policy stance and increased safe-haven buying on geopolitical tensions and growth concerns.
The Fed has aggressively raised interest rates since March to keep inflation under check, however, the central bank has now entered an uncertain phase as some improvement in inflationary conditions and increasing pressure on economic activity have put pressure on economic activity in the future. have fueled debate about the steps.
US inflation conditions are still out of control, meaning rates may continue to rise, although there has been some improvement in the July readings.
On the other hand, mixed economic data shows increasing stress on the economy, and has fueled hopes that the central bank may slow the pace of rate hikes.
The Fed’s uncertainty was evident in the latest FOMC minutes as well as comments from Fed officials. The FOMC Minutes showed that the central bank wants to keep inflation from freezing, but it also wants to avoid over-tightening and sees the need to slow rate hikes at some point.
Some Fed officials have maintained support for aggressive rate hikes to control inflation, while some believe the pace of the increase is debatable.
The general market expectation is that the Fed may cut interest rates by 50 basis points at its upcoming meeting in the month of September.
We may see continued volatility as market players react to economic numbers and central bank comments to determine future moves.
The US dollar index also rose amid rising concerns about the health of the European and Chinese economies. Both Europe and China are facing severe power crises that have worsened the economic outlook.
Europe is also battling high inflation. Euro-zone consumer prices rose at a record pace last month, while UK inflation hit double digits for the first time in 40 years.
China is also in focus as virus-related restrictions have disrupted economic activity while asset markets remain under strain.
The government’s efforts to cut China’s central bank’s key lending rate and boost infrastructure spending have also failed to improve the economy’s outlook.
Geopolitical tensions have also increased the safe-haven appeal of the US dollar. Tensions between the US and China have escalated since US House Speaker Nancy Pelosi’s visit to Taiwan.
Tensions escalated this week as China opposed a proposal for trade talks between the US and Taiwan. Adding to the tension, Indonesia announced that Russian and Chinese presidents may attend the G20 summit in the month of November.
While the US dollar has been the preferred safe haven asset, growth risks and increased geopolitical tensions are positive for gold as well.
The appeal of gold may also increase as an inflation hedge against inflation concerns. The power crisis in Europe and China threatens to worsen inflation in the region.
The biggest challenge of gold is the lack of investor interest. Gold ETF investors have continued to exit despite the recent fall in the price of gold in March 2021 and a rally above the $1800 per ounce level.
Gold holdings with the SPDR ETF are at their lowest level since January. Investors lack confidence as the Fed and other central banks are aggressively raising interest rates and may tighten until inflation is brought under control.
Gold has weakened after four weeks of gains, indicating that market players need a fresh positive trigger to increase buying interest.
The US dollar index has returned with confidence, but it could remain volatile as uncertainty about the Fed’s monetary policy mounts.
The next major trigger for the US dollar could come from the annual Jackson Hole symposium where Fed chairmen may discuss the US economic outlook and the Fed’s monetary policy stance.
(The author is Associate Vice President – Commodity Research, Kotak Securities)
(Disclaimer: Recommendations, suggestions, views and opinions given by experts are their own. They do not represent the views of The Economic Times)