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Gold is trading back above $1,200/oz as it continues to recover from its mid-August nadir. A continued recovery could eventually trigger an accelerated rally due to short-covering from hedge funds currently holding a record short. For now, the key source of inspiration for gold traders remains USD, and this is true for both bulls and bears.
The strong dollar surge following the collapse of the Turkish lira was halted in mid-August when President Trump criticised the Federal Reserve while saying that Jerome Powell had not been the cheap money chairman he had hoped for, and as a result the dollar was too strong.
Gold is currently challenging the next area of resistance at $1,217/oz with a break above opening up for a move to $1,235/oz. Continued dollar weakness is needed to trigger a short-covering rally from funds holding a record short.
Since then the greenback has continued to lose ground despite firm signals, as per the recent Federal Open market Committee minutes and last Friday's Jackson Hole speech by Powell suggesting the Fed is readying more rate hikes. One of the best performing major currencies has been the euro (+3.5% from its mid-August low) which despite worries about Italy has been supported by macroeconomic data that continue to beat estimates.
The Citi Economic surprise index, which measures economic data surprises relative to market expectations, shows the current divergence between the Eurozone and the US where data have warned about a dollar turnaround for some time now, with data weakening relative to expectations.
The Chinese yuan maintains a very high historical correlation to gold and the two have continued to recover after the People's Bank of China sent a signal (through the use of various measures) in mid-August that a USDCNY rate above 7 was unlikely to be tolerated. Since then, the yuan has advanced by 1.9% while gold has added 3.4%.
The market will now increasingly be looking for signs of if and when hedge funds begin to abandon their record net-short position in COMEX gold futures. During a six-week period up until August 21, they accumulated a record short of 79,000 lots, some 3.3 times bigger than the previous record from December 2015.
A recovery in gold may attract an even bigger interest in silver given its relative cheapness. The XAUXAG ratio currently trades at 81 (ounces of silver to buy one ounce of gold); silver has only traded above this level on a few occasions over the past 10 years.
The road to a bond bull market is paved, although challenges remain
Is a bond bull market ahead? Inflation still poses a risk for investors, but the moment for increasing duration to your portfolio may be approaching towards the end of the year, when central banks might be forced to cut interest rates.
FX: King dollar and its far-reaching repercussions
The furious rate hike cycle has brought gains in the US dollar, but with stagflation risks in Europe and the UK and weakness in the Chinese economy, USD may have more room to run. But a strong dollar could also have repercussions for US growth, emerging markets and commodity prices.
Equities: Higher cost of capital is getting painful
With the cost of capital rising painfully, stagflation fears are back, illuminating the fragile state of the green transformation, while giving a tailwind to nuclear power, and threatening the growth of AI-related stocks.
Commodity sector supported by peak rates, tight supply focus
With supply tightness not only in energy but all commodities, the momentum in commodity prices may continue, pressuring central banks to lower real rates. That could be a good setup for precious metals, including gold, silver and potentially platinum as well.
As the pandemic showed, even the US Treasury can experience seismic shifts. With the government increasing the pace of issuing bonds to support fiscal spending, the complex Treasury market and regulatory constraints could spark a liquidity event.
The tide has turned for bonds. Given the current yields, bonds have become an attractive investment, with added benefits including lower risk than stocks, increased diversification and a steady stream of income unaffected by economic changes.
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