The markets have for the most part already priced in a Fed rate hike which
is expected next week. Yesterday fed funds futures indicated an 80% chance
of a rate hike. It would be the first hike in roughly 9 years. The Fed last
began a new hiking cycle in 2004. We consult history to decipher the potential
impact (of a rate hike) on the embattled precious metals sector.
The chart below plots the US$ index, the Fed Funds rate and Gold. We marked
the points at which the Fed Funds rate began to increase. The red marks show
the two points which are most comparable to today with respect to the US$ index.
At those points (1983-1984 and 1999) an increase in the Fed Funds rate was
preceded by a strong uptrend in the US$ index.
The Fed Funds rate increases in 1983-1984 were preceded by US$ strength but
also massive rebounds in Gold and gold stocks. From mid 1982 into early 1983
Gold rebounded by 73% and the Barron's Gold Mining Index rebounded by 210%.
The Fed Funds rate increase in 1999 is most applicable to today because it
was preceded by US$ strength and steep declines in Gold, gold stocks and Commodities.
(It was also preceded by strength in US equities and major weakness in emerging
markets).
The chart below shows how various markets performed before and after the rate
hike in summer 1999. The US$ index declined by 7.5% while Gold and gold miners
surged higher. The counter-trend move lasted the longest in Commodities. Another
similarity to note, albeit small, is the gold miners (HUI) did not make a new
low before the hike as Gold did.
The gold mining indices (GDX, GDXJ, HUI) have essentially held support and
built a base since July. GDXJ (shown below) figures to close the week in the
mid $19s. If history repeats itself (with respect to Fed actions) then a rebound
should begin after the hike and last for a few months. The initial target would
be the 200-day moving average ($22) followed by the October high (mid $23)
and the 400-day moving average ($27).
A Fed rate hike could be a catalyst for a decent rebound in hard assets and
in gold stocks especially. However, the key word is rebound. History argues
for a rebound in the weeks to come but a rebound followed by new highs in the
US$ index and new lows in precious metals. This fits with our expectation that
the US$ index could surge higher in 2016 and lead to capitulation and the end
of the bear market in Gold and Silver.
