The FED has made the booms and busts much more exaggerated than they otherwise would be. Their ability to unilaterally dictate interest rates rather than allow the free markets to determine equilibrium, has generated an incredible amount of volatility for investors.
Gold and silver have enjoyed a powerful rally in 2016, which started right after the FED last raised interest rates. Yet, the fear of the FED raising rates by another 25 basis points has paralyzed gold investors. Equity investors are also hanging on every word that comes from our overlord central planners.
Yesterday when Federal Reserve bank president Eric Rosengren said that he thought it might be appropriate for the U.S. central bank to start raising rates, the stock market crashed hard yesterday, having the second worst day of the year behind the BREXIT panic.
Then today, Fed Governor Lael Brainard delivered a dovish speech in Chicago. Of particular note is the fact that she deviated from the FED’s message of needing near-term rate hikes and instead mentioned several reasons that the FED should not raise rates yet. These included low inflation, labor market slack, and volatile foreign markets.
Her opinion is not new, but she re-iterated her stance and the market took notice. Stocks climbed from an morning decline to close the day up 1.5%. Gold and silver also reversed earlier losses to close the day in the green.
Gold had been declining for most of the morning and shed roughly $10. Then in the minutes after Brainard’s speech, gold spiked higher, erased all of the morning losses and closed the day in the green. Likewise, the silver price went from being down 30 cents to a 12-cent gain, a 42 cent swing. It is now trading above $19 again, closing the day at $19.20.
The Federal Open Market Committee (FOMC) meets next week to decide on any changes in U.S. monetary policy. So, the drama continues. It might be a comedy, except for the fact that the volatility crushes the investments of the average Joe at the expense of those with inside knowledge or access to the information milliseconds before the rest of us receive it.
So, What is Next for Gold?
I believe the bull cycle in gold is just getting started and that we are experiencing a normal and healthy correction within this cycle. Gold became overheated, investors overly bullish, sentiment near record levels and this type of pullback was required. Nothing goes up in a straight line and the gold price is no exception.
But the fundamental reasons for owning gold have not changed. Monetary easing continues, low rates (ZIRP) are here to stay and there are now increasing chances for negative interest rates (NIRP) to catch on around the globe. The U.S. deficit is climbing again on a trajectory back towards $1 trillion per year as debt-to-income ratios globally continue to soar.
Geopolitical tensions unfortunately continue to simmer, with the U.S. in conflict with Russia, China, Iran, Afghanistan, North Korea and a number of other nations. These conflicts are no longer “cold,” but have escalated into very real military provocations, threats of war, near misses by boat and plane, nuclear tests and an acceleration in military spending not seen in decades.
Stocks, bond and real estate are all in bubble territory again, leaving gold as one of the only undervalued sectors left for value investors. After a correction that lasted over 4 years and brought prices down to the cost of production, the odds that gold bottomed have increased substantially. And if the 2016 rally could ensue immediately following the FED’s last rate hike, one has to wonder why so many investors fear another small hike.
The technical chart for gold is bearish in the short term. Gold has put in lower highs and lower lows since July, forming the downward sloping (red) trend channel in the chart. But it remains above key technical support at $1,305, which held up very well the last time it was tested. It will need to hold again if we are to remain bullish on gold throughout the remainder of 2016. Failure to hold $1,305 will be a very bad sign for gold bulls and suggests more downside ahead.The RSI momentum indicator is pointed downward with room to continue dropping.
While Brainard’s comments helped gold today, it will face continuing pressure this week if the dollar index can manage to climb higher. But despite the rate hike in December of last year and promise of 3 more rate hikes in 2016, the USD has been unable to break out of its 2-year sideways trading pattern. Another small move higher in interest rates is unlikely to change things.
Summary
I think the gold rally is likely to re-commence following the FED’s upcoming failure to launch on September 21st. Sure, everyone will eventually turn their attention to the potential of a December rate hike. But for a while, the sinking realization that the FED is unable or unwilling to raise rates by any meaningful amount should be enough to send gold on its next leg higher.
Adding to our stubbornly bullish outlook is the strong year-end seasonal tailwind that typically pushed gold prices higher. Festival season, wedding season, holidays and other factors lead to a large increase in demand for physical gold bullion during these months. To get more frequent updates on our view of the markets, plus 15 of our top stock picks, click here to sign up for the Gold Stock Bull Premium Membership.
