Gold
weathered the Federal Reserve’s 7th rate hike of this cycle this
week. Gold-futures speculators and to a lesser extent gold
investors have long feared Fed rate hikes, selling ahead of them.
Higher rates are viewed as the nemesis of zero-yielding gold. But
contrary to this popular belief, past Fed rate hikes have proven
very bullish for gold. This latest hike once again leaves gold set
up for a major rally in coming months.
The
Fed’s Federal Open Market Committee meets 8 times per year to make
monetary-policy decisions. These can really impact the financial
markets, and thus are closely watched by gold-futures speculators.
These elite traders wield wildly-outsized influence on short-term
gold price action due to the truly extreme leverage inherent in
gold-futures trading. What they do before and after FOMC decisions
really impacts gold.
This
week’s latest Fed rate hike was universally expected. Trading in
the federal-funds-futures market effectively implies rate-hike
odds. Way back in mid-April they shot up to 100% for this week’s
meeting, then stayed there for 5 weeks. In the last several weeks
they averaged 91%. So everyone knew another Fed rate hike was
coming. That’s typical, as the FOMC doesn’t want to surprise the
markets and ignite selloffs.
The
big unknown going into the every-other FOMC meetings followed by
press conferences from the Fed chairman is the future rate-hike
outlooks. Top FOMC officials’ individual federal-funds-rate
outlooks are summarized in a chart traders call the “dot plot”.
That was hawkish this week, with 2018’s total expected rate hikes
climbing from 3 to 4. More near-term rate hikes projected have
really hammered gold in the past.
But
on this week’s Fed Day gold didn’t plunge despite these hawkish dots
and 7th rate hike of this cycle. Gold was around $1297 as the FOMC
statement and dot plot were released that afternoon, and only fell
modestly to $1293 after that. Then it started rallying back a
half-hour later during Jerome Powell’s post-decision press
conference. Gold closed that day at $1299, actually rallying 0.3%
through a hawkish FOMC.
Gold-futures speculators usually sell leading into the every-other
“live” FOMC meetings with dot plots and press conferences.
Incidentally the first thing the new chairman Powell discussed this
week is he is going to begin holding press conferences after all 8
FOMC meetings each year starting in January! So the
gold-futures-driven gold volatility surrounding the Fed could very
well become more frequent in 2019 and beyond.
All
that gold-futures selling before FOMC meetings leaves speculators’
positions too bearish. And the Fed tries hard to never majorly
surprise on the hawkish side anyway. So after FOMC decisions the
very gold-futures speculators who sold aggressively leading into
them often start buying back in. This trading dynamic forces gold
lower leading into Fed Days, and then drives big rebound rallies
coming out of them.
This
week a single gold-futures contract controlling 100 troy ounces of
gold worth about $130,000 had a maintenance-margin requirement of
just $3100! So futures traders can run up to 41.9x leverage
to gold, which is mind-boggling. The legal limit in the stock
markets has been 2x for decades. At 40x each dollar deployed in
gold futures has 40x the impact on the gold price as another dollar
invested in gold outright.
So
even if you don’t trade gold futures like the vast majority of gold
investors, they are important to watch since they dominate
short-term gold action. This first chart looks at gold and
speculators’ total long and short positions in gold futures over
this Fed-rate-hike cycle. Each of these 7 rate hikes is
highlighted, showing how gold sells off into them before rallying
out of them mostly driven by speculators’ gold-futures trading.
Back
in late 2015, the FOMC hadn’t hiked its FFR for nearly a decade. At
its late-October 2015 meeting, the FOMC statement warned the Fed was
“determining whether it will be appropriate to raise the target
range at its next meeting”. That hawkish signal shocked
gold-futures traders and they started dumping long contracts while
rapidly ramping short sales. Gold was crushed on that, falling 9.1%
over the next 7 weeks.
On
the eve of that fateful mid-December FOMC decision to start hiking
rates again for the first time in 9.5 years, everyone was convinced
that was bad news for gold. Gold yields nothing, so surely higher
bond yields would divert investment away from gold. It sounds
logical, but history has proven the opposite. So just days before
that initial Fed rate hike, I wrote a bullish essay showing
how gold thrived
in past rate-hike cycles.
Gold
surged 1.1% the day of that first hike, but plunged 2.1% to a
6.1-year secular low of $1051 the very next day. Foreign
traders had fled overnight following that rate hike. But gold
started powering higher right after that. By mid-February 2016 gold
had roared back up 18.5% on all that post-FOMC-rebound spec long
buying and short covering! Gold formally entered a new bull market
at +20% a few weeks later.
The
Fed’s second rate hike of this cycle came exactly a year after the
first in mid-December 2016. Again the Fed telegraphed another hike,
so again gold-futures speculators fled longs and ramped shorts. In
the 5 weeks leading into that FOMC meeting, gold plunged 11.2%.
That was really exacerbated by the extreme
Trumphoria
stock-market rally in the wake of Trump’s surprise election
victory early in that same span.
While everyone saw that Fed hike coming, the dot-plot rate-hike
outlook of top FOMC officials climbed from 2 additional rate hikes
in 2017 to 3. So spec gold-futures selling exploded, battering gold
1.4% lower that day and another 1.2% to $1128 the next. That
hawkish FOMC surprise of more rate hikes faster was the worst-case
Fed-decision scenario for gold. The general gold bearishness was
epically high.
But
gold didn’t plunge from there like everyone expected. Instead it
rebounded dramatically higher with an 11.4% rally over the next 10
weeks or so! When speculators’ gold-futures longs get too low
and/or their shorts get too high heading into any FOMC decision,
these excessive trades have to be reversed in its wake. Any
pre-FOMC gold-futures selling directly translates into symmetrical
post-FOMC buying.
Since the FOMC spaced out its initial couple hikes of this cycle by
an entire year, there was rightfully a lot of skepticism about when
the third would come. So up until just a couple weeks out from the
mid-March-2017 FOMC meeting, the FF-futures-implied rate-hike odds
were just 22%. But Fed officials jawboned them up to 95% by a
couple days before that meeting. Gold was again hit on
Fed-rate-hike fears, falling 4.7%.
But
right after that third rate hike of this cycle, gold immediately
caught a bid and surged 7.6% higher over the next 5 weeks or so.
That dot plot kept the 2017 rate-hike outlook at 3 total, not upping
it to 4 as the gold-futures speculators expected. So again they
were forced to admit their pre-FOMC bearishness was way overdone
and buy back in. Fed rate hikes aren’t bearish for gold despite
traders’ irrational expectations.
After being wildly wrong for three Fed rate hikes in a row, some of
the gold-futures speculators started to pay attention heading into
this cycle’s 4th hike in mid-June 2017. But gold still fell 2.1%
over several trading days leading into it. That hike too was
universally expected like nearly all of them, and the dot plot was
neutral staying at 3 total hikes in 2017. But the gold-futures
selling broke precedent to continue that time.
In
the first week or so after that 4th hike last summer, gold fell
1.9%. Those post-hike losses extended to 4.2% total by early July.
That particular rate hike was unique to that point in that it came
to pass early in
gold’s summer doldrums. In June and early July, gold investment
demand wanes so it usually just drifts sideways to lower. Thus this
decades-old seasonal lull effectively delayed that post-FOMC
gold reaction rally.
Once
last year’s summer-doldrums low passed, gold again took off like a
rocket as specs scrambled to normalize their
excessively-bearish gold-futures bets. So gold surged 11.2%
higher between early July and early September on heavy gold-futures
buying. This gold reaction to last June’s 4th Fed rate hike may be
the best template of what to expect after this June’s 7th one.
Summer may again delay gold’s rebound.
But
whether gold’s usual post-FOMC rally starts now or a few weeks from
now is ultimately irrelevant in the grand scheme. The
seasonally-weak summer doldrums don’t change the fact that
speculators’ gold-futures bets get too extreme heading into
telegraphed Fed rate hikes, so they have to be normalized in
the FOMC’s wake. This gold-bullish pattern has held true to varying
degrees after all 6 previous hikes of this cycle.
The
Fed took a break from hiking in September 2017 to announce its
wildly-unprecedented
quantitative-tightening campaign to start to unwind long years
and trillions of dollars of QE money printing. So the rate
hikes resumed at that every-other-FOMC-meeting tempo in mid-December
2017. Again the goofy gold-futures traders started fearing another
hawkish dot plot, so gold fell 4.0% in several weeks leading in to
it.
But
that 5th rate hike of this cycle was accompanied by a neutral dot
plot forecasting 3 more rate hikes in 2018 instead of the 4
gold-futures traders expected. So again they had to admit their
bearishness was way overdone and buy back in aggressively. So over
the next 6 weeks after that FOMC meeting, gold shot 9.2% higher to
$1358 nearing a
major breakout! How can anyone believe rate hikes are bearish
for gold?
The
6th hike of this cycle came right on schedule in late March this
year, accompanied by a neutral dot plot still forecasting 3 total
rate hikes in 2018. But again the gold-futures traders worried
leading into that FOMC decision, pushing gold 3.2% lower over the
prior month or so. They started buying back in that very Fed Day,
so gold sharply rebounded 3.3% higher to $1353 within 4 trading days
of that Fed rate hike.
This
gold-futures-driven gold price action surrounding Fed rate hikes is
crystal-clear. Gold falls leading into FOMC meetings with expected
hikes on fears of hawkish rate-hike forecasts in the dot plots. All
that pre-FOMC selling leaves speculators’ collective gold-futures
bets way too bearish, with longs too low and/or shorts too high.
Then once the Fed acts and specs realize gold isn’t collapsing, they
quickly buy back in.
The
Fed’s again-universally-expected 7th rate hike of this cycle came
this Wednesday. And despite the gold-bullish examples of all the
prior 6 hikes, gold-futures traders again sold leading into it.
Starting back in mid-April, they embarked on a major long
liquidation that pushed gold 4.0% lower by this week’s FOMC
eve. In their defense that was mostly in response to a
US dollar short
squeeze, so maybe they are learning.
Gold-futures data is released weekly in the CFTC’s famous
Commitments of Traders reports. These are published late Friday
afternoons current to preceding Tuesday closes. So the latest data
available when this essay was published is from the CoT week ending
June 5th. Even then a week before this 7th Fed rate hike, total
spec longs at 235.9k contracts were way down at a 2.3-year low!
Speculators were all out.
The
Fed indeed hiked as expected, and specs’ hawkish forecast seemed to
be confirmed by this newest dot plot. Finally at this week’s FOMC
meeting the collective rate-hike outlook rose from 3 total hikes in
2018 to 4. That was the perfect excuse for gold-futures traders
irrationally terrified of higher rates to sell gold hard! Yet they
couldn’t, with their longs among the lowest levels of this bull the
selling was already exhausted.
So
gold is once again set up with a very-bullish June-rate-hike
scenario like last summer. Once again specs need to normalize their
collective gold-futures bets after waxing too bearish leading into
another Fed rate hike. That big gold-futures buying is inevitably
coming, although it may once again be delayed for a few weeks by the
summer doldrums. That would simply add to gold’s powerful
seasonal autumn
rally.
Gold’s resilience this week in the face of that hawkish dot plot was
very impressive. Remember the last time the near-term FFR forecast
added another hike in mid-December 2016, gold plunged 2.6% in only 2
trading days. The fact gold didn’t suffer another kneejerk plunge
this week on adding another hike this year shows considerable
strength! Speculators could’ve aggressively short sold gold
futures, but refrained.
Thus
gold’s post-rate-hike reaction after this 7th one is likely to
mirror the strong rallies after the prior 6. They ranged from 3.3%
to 18.5% in the weeks and months after hikes, averaging 10.2%.
Given we’re in the heart of the summer doldrums, gold’s post-FOMC
rally this summer could mirror last summer’s. It didn’t start until
early July, but from there gold blasted 11.2% higher into early
September. That’s a big deal.
Gold
was trading at $1295 this Tuesday before this week’s FOMC decision.
That’s a high base relative to gold’s bull-to-date peak of $1365
from early July 2016. A decisive 1% breakout above that happens at
$1379. That would change everything for gold psychology,
unleashing a major new wave of global gold investment demand. That
critical breakout level for sentiment is only 6.4% above this week’s
FOMC-eve close!
So
there’s a good chance this coming 7th post-rate-hike rally of this
gold bull will push gold’s price into major-breakout territory! As
long as gold doesn’t slump too deep in the remaining summer doldrums
of the next few weeks, that targets a potential breakout span in
this year’s autumn rally. Those tend to peak by late
September. With gold relatively high and spec gold-futures longs
super-low, gold’s setup is very bullish.
For
7 Fed rate hikes in a row now, most traders have believed and argued
that higher rates are bearish for gold. This rate-hike cycle is now
2.5 years old, plenty of time for that popular thesis to play out.
Yet between the day before that first hike in mid-December 2015 and
this week’s 7th hike, gold still rallied 22.4% higher! The
US Dollar Index, which was
supposed to soar
on rate hikes, slipped 4.7% lower in that span.
Conventional wisdom on Fed rate hikes is obviously very wrong.
That’s nothing new, as my extensive research has documented.
Throughout all of modern history,
gold has thrived
during Fed-rate-hike cycles. Today’s cycle is the 12th since
1971. During the exact spans of all previous 11, gold averaged a
solid 26.9% gain. During the 6 of these where gold rallied, its
average rate-hike-cycle gain was a huge
61.0%!
The
Fed’s last rate-hike cycle ran from June 2004 to June 2006, dwarfing
today’s. The FOMC hiked in 17 consecutive meetings, totaling 425
basis points which more than quintupled the FFR to 5.25%. If rate
hikes and higher rates are bad for gold, it should’ve plummeted at
5%+. But instead gold surged 49.6% higher over that exact span!
Fed-rate-hike cycles are bullish for gold, regardless of what
futures guys think.
Sadly their irrational and totally-wrong bearish psychology even
infects gold investors. This next chart looks at gold and the
physical gold bullion held in trust for GLD shareholders. That is
the world’s largest and dominant gold ETF. Its holdings reflect
gold investment trends, rising when capital is flowing into gold and
falling when investors are leaving. That futures-driven gold action
around rate hikes is affecting investment!
Unfortunately this essay would get far too long if I dive deeply
into this chart. But I couldn’t exclude it from this discussion
either. Because of that goofy gold-futures trading action
surrounding Fed rate hikes in this cycle, investors have followed
suit to varying degrees. They tend to sell gold leading into Fed
rate hikes, and that downside momentum often continues in the
weeks after hikes. That really weighs on gold.
But
after a couple weeks of strong post-FOMC rallying driven by that
gold-futures rebound buying, investors once again start warming to
gold. They resume buying GLD shares faster than gold itself is
being bought, and start amplifying gold’s post-rate-hike rallies
after retarding them initially. It is disappointing that
investors too are drinking the psychological tainted Kool-Aid
poured by gold-futures speculators.
As a
battle-hardened speculator myself and lifelong student of the
markets, I don’t care which way they are going. We can trade them
up or down and make money. But it’s very frustrating when the
traders who dominate gold’s short-term price action continue to
cling to a myth, distorting signals and misleading everyone else.
History has proven over and over again that Fed-rate-hike cycles
are very bullish for gold.
Gold
has rallied strongly on average after 6 of the past 6 Fed rate hikes
of this cycle! Last summer was the only quasi-exception, when
gold’s weak seasonals delayed its post-hike rally for a few weeks.
There is literally no reason not to expect gold to power higher
again after this week’s 7th hike. And with gold at these levels,
that next post-FOMC rally should see
a major
bull-market breakout that will bring investors back.
The
last time investors flooded into gold in early 2016 after that
initial December rate hike, gold powered 29.9% higher in 6.7
months. The beaten-down gold miners’ stocks greatly amplified those
gains, with the leading HUI gold-stock index soaring 182.2% higher
over roughly that same span! Gold stocks are again deeply
undervalued relative to gold,
a coiled spring
ready to explode higher in this gold bull’s next major upleg.
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The
bottom line is Fed rate hikes are bullish for gold, and this week’s
is no exception. Gold has not only powered higher on average in
past Fed-rate-hike cycles, but has rallied nicely in this current
one. Gold enjoyed big rebound surges after all 6 previous Fed rate
hikes of this cycle. Gold-futures speculators who sold too
aggressively leading into FOMC meetings had to buy back after to
normalize their bearish positions.
And
gold looks super-bullish in the coming months after this week’s 7th
Fed rate hike of this cycle. Those gold-dominating futures traders
sold their longs down to levels not seen since the initial months of
this gold bull! So they’re going to have to do huge buying to
reestablish normal positioning. While gold’s summer doldrums may
delay that a few weeks, the coming gold-futures buying could drive a
major upside breakout. |