The price of gold has continued its rocket-shot of a week today as the world’s financial markets are reeling; breaking to a six-year high above the major psychological line of $1,500 an ounce this morning.
At the time of writing, gold trades slightly above that level in the sport markets, having ticked just below $1,510/oz at times this morning. As the chart appears to be settling from its morning breakout, let’s take a look at what drove the yellow metal to this point. By understanding what inputs have driven gold prices so high, we can better gauge how likely they are to continue their uptrend from here.
From my point of view, the fervent uptick in gold-buying over the last week is driven by four very familiar factors: the state of trade conflict between Washington and Beijing, tumbling stock markets around the globe, cut-happy central banks, and the collapsing of treasury yields.
US-China Trade War
The re-enflamed trade conflict between the US and China, the world’s two largest economies, is both the biggest influence on this week’s market convulsions and also the factor that is mostly independent of the others. For this reason, it bears the closest watching.
The trouble is, as we’ve often discussed, it’s also the most unpredictable part of the current macroeconomic landscape, as Thursday afternoon’s fireworks demonstrated. This week’s instability began right away when, already roiled last week by the sudden announcement of more US tariffs on Chinese goods, the markets showed signs of panic as the Chinese Yuan was allowed to depreciate by the most in a decade and the USD/CNY chart crossed above the demarcation line of 7.0. It would take more time than you need to spend, reader, to understand why 7.0 is an important line for this particular currency pair; what’s more, the why of it isn’t particularly important.
What is important is that it signaled that the Chinese government might be willing to cross over into demonstrable currency manipulation rather than back down to US trade demands. Global markets immediately started pulling back in to risk-off, protective positioning as this was seen as a signal that the US-China trade conflict, which some are already predicting may cost the global economy over $1 trillion, is unlikely to calm anytime soon and may well stretch past the end of next year. To underline the point from the Washington side of the line, on Monday afternoon the White House officially named China as a currency manipulator.
This trade conflict is casting a wide shadow over the entire global economy, and the last three trading days have only seen it grow darker. Each facet of investors’ and markets’ attempts to shield themselves have a secondary (if not primary) effect of driving the safe-haven value of gold higher. Nowhere is the weight of this trade war felt more strongly than in equity markets.
Carrying on from the state of markets on Friday, the world’s major equity indices have taken an absolute beating so far this week. The pain started with the open of Asian markets as the Yuan’s weak fix for the day signaled to markets that the US-China trade war is unlikely to find a resolution any time soon. As safe-haven pivots strengthened both gold and that Yen, equities in Europe and then the US continued to plummet amid increasing fears of unavoidable economic pain around the globe. On Monday, US markets had their worst day of the year with the Dow falling by more than 750 points (nearly 3% for the day.) Tuesday brought some signs of life as US equites rebounded, thanks in part to the small step back by the Chinese treasury, but so far that seems to have been a false dawn: despite some decent performance from overseas markets indicating another positive day, US stocks took another dive as soon as the bell rang this morning.
Investors hit the eject button without a clear and immediate catalyst Wednesday morning — turning what was poised to be a positive open into a sea of red https://t.co/tZvzWjDt5o
— Bloomberg (@business) August 7, 2019
Typically, the first choice for investors pulling their money out of stocks and looking for a safe landing would be US treasuries, but with yields collapsing alongside equities that currently looks like a much less appealing trade. For as long as this rocky slide persists, gold and silver bulls will remain in the money seat. To compound things, the pain investors are feeling all over the globe this week is turning up the volume on the market’s cries for central banks to take action.
Central Bank Easing
We all know how this one works: the implication of central banks in the developed world moving towards monetary policy easing spurs the buying of gold both as an inflation hedge and because easier monetary policy in the future means lower-yielding debt as well, making gold an overall more attractive safe-haven. This is, after all, the mechanic that dominated our coverage last week. While there haven’t been any concrete signals that the US Fed has adjusted their stance since July 31’s announcement (St. Louis Fed president James Bullard yesterday stuck to his call for just one more cut in 2019,) the overall global attitude seems to be shifting towards central banks preparing to take action to preserve whatever economic expansion remains.
German industrial data has continued to slump and put pressure on the ECB to ease in the second half of this year more aggressively than Mario Draghi indicated last month, and markets were further spooked last night by the central banks of New Zealand, India and Thailand all preemptively cutting rates when less (or none) was expected. So while Jerome Powell and the FOMC have not really suggested that they’re about to adopt a more dovish posture, the rest of the world certainly seems to be leaning that way, and the Federal Reserve will not want to be the last one through the door.
This increasing expectation for easier global monetary policy (and the high risk of recession that it implies) will continue to support gold buying as a mechanic of macroeconomic fundamentals. But more than that, it’s also having a negative effect on the main alternative to gold as a safe-haven asset.
Buyers’ yield on the benchmark US 10-year treasury was already concerningly below 2.0% to begin the week as US-China trade tension had markets re-pricing their expectations for the US rate path. That pressure on yields, in the US and on all “safe” government debt, has continued and appeared to reach a flash point this morning with the US 10 year yield nearly collapsing through 1.6%. So far this morning there are a lot of analysts (including the ones in the tweet we embedded earlier) painting this morning’s market turmoil as some kind of mystery, but I believe falling US yields are in the driver’s seat.
It’s not only stateside yields that are feeling the pain of course. One of the primary “alternative” safe-haven government bonds, the German Bund, has fallen deeper into negative yielding territory this week. As I mentioned when discussing the equity markets: as long as yields continue to fall lower, more investment will move into gold and silver.
It’s true, everything is looking up for the investor that’s long-gold right now. It’s important to remember though that gold in particular has some elastic pricing potential, and that it can really hurt when a rubber band snaps back. With these four primary drivers of gold’s rise to $1,500/oz over the last few days, it’s very possible that one could peter out or even reverse and still gold could continue higher. But, if just one of these factors were to go away and gold were to fall back below the $1485-1500 range, that could signal a strong collapse in the price of yellow metal from these highs, maybe as low as $1,450.
To be clear, I’m not calling for that to be the likely next move. But it’s important to keep a cool ahead as a metals or currency trader, and that means always being on guard when an asset like gold hockey-sticks higher in the way that we’ve seen it go this week. The right thing to do—the smart thing to do—is to keep your eye on the four macroeconomic levels we’ve discussed here as they shift and learn from how gold price reacts.
Best of luck out there, traders. I’ll see you back here on Friday to breakdown how the week turns out.