Gold jumped again on Friday building on a rally sparked by the US Federal Reserve decision to hold interest rates in the world’s largest economy near zero – levels it’s been for the better part of a decade.
Gold for delivery in December – the most active futures contract on the Comex market in New York – jumped 2% or more than $20 an ounce for a day high of $1,141.70, a near three-week high.
The dovish statement from the US central bank mentioned subdued inflation in the US as data out on Wednesday showed CPI has in fact moved into deflationary territory. The Federal Open Market Committee also expects inflation to reach its target rate of 2% only by 2018.
The Fed’s caution sent the dollar tumbling and bond yields falling. Gold and yields have a strong negative correlation. Rising real interest rates increases the opportunity costs of holding gold because the metal provides no yield and therefore the price should decline. Higher rates also boost the value of the dollar, which usually move in the opposite direction of the gold price.
Since the global financial crisis the relationship between interest rate expectations and the gold price has only become tighter with some analysts believing the metal can serve as an early warning system of both the direction and magnitude of the move in rates.
These two graphs from independent research house Capital Economics shows based on the correlation between gold and the dollar and gold and bond yields, the metal still has plenty of upside.
In fact given that the Fed adjusted downward its forecast for year-end 2016 interest rates to 1.375% from 1.625% in June, the gold price could go off these charts:
Source: Capital Economics
Image by Camil Tulcan
2 Comments
ExPat
I would not get too excited about a few up days which still have gold much lower than it was earlier this year. Even if there is a big “short squeeze” bounce, I doubt gold will get above $1,250 and ounce in the next month. And the outlook for gold prices over the next year is not good. I would be surprised if it does not break below $1,000 sometime in the next 12 months.
Farah Bazzrea
The two graphs speak for themselves. Thanks for sharing.