Wednesday June 07, 2017 23:30
Thursday is a huge day for the market, with the ECB meeting, general elections in the U.K., and former FBI director James Comey’s testimony. But, one analyst said he is looking through these events and focusing on the Fed meeting instead.
“I don’t think any of these events will have a huge bearing on gold. The gold market is cuing off more U.S.-centric pricing mechanisms. If the ECB does disappoint to an extent, then you could see the euro fall, which could be positive for the dollar index, and gold could come off a few bucks. But, I don’t expect gold to have a big move on the ECB,” Chris Weston, chief market strategist at IG in Australia, told Kitco News in a telephone interview.
Weston explained that most people have positioned their portfolio in light of the ECB adopting a softly cautious approach. “There is no need to rock the boat too greatly,” he noted.
In terms of the U.K. general election, Weston doesn’t see it as a big gold mover either. “The election is going to be fairly well contained within the U.K. assets — pound will be very sensitive,” he said.
Instead, Weston is monitoring two other things that he believes have a high impact on gold prices — inflation-adjusted bond yields (there is a very strong correlation between them and gold prices) and next week’s Fed meeting.
“Real yields will have absolutely no impact from the ECB and the U.K. election. That is the bottom line,” he pointed out.
Overall, Weston is positive on gold at the moment. “I’ve got an optimistic bias on gold, a progressively cautious one. It will turn out to be an outright bullish bias on gold if we could close above $1,295, which was, of course, the April high. We had a test of $1,295, we rejected that level and now we need to see a closing break. Otherwise, the markets will roll back to $1,260-$1,250 in the short to medium term.
‘Future pace of Fed rate hikes is key’
Next week’s Fed meeting has a far bigger importance for gold than any other event this week, Weston said.
“Future rate hikes are key. I wouldn’t even be looking too much at the June rate because the Fed will raise the funds rate. Just by looking at market pricing, you realize that it was almost a done deal for some time and the Fed hasn’t pushed back on that view.”
The market is currently pricing in well above 90% probability of a rate hike during the two-day monetary policy meeting on June 13-14.
“We’ve got very predictable central bank policy. And the Fed doesn’t like to surprise the market these days,” Weston noted.
Some of the important things to look at in the Fed statement include the central bank’s growth and inflation forecasts.
“We are going through a weak period of U.S. growth and the Fed has classified it as transitory, and now they’ve got a chance to show how that soft data affects their views. And there is a decent chance we will get core inflation taken down from the current expectations of 1.9% to 1.7%,” Weston explained. “How certain is the Fed that this period of soft data is transitory and are we going to have a spring back to 2.5%-3% growth in the Q2? If we are going to see a real determination, that could be bad for gold.”
The other key thing to keep an eye on is the “normalization" of the Fed’s $4.5 trillion balance sheet. The Fed already talked more openly in the minutes about using its balance sheet.
“In September, the Fed could announce a more effective use of their balance sheet and allow it to run off in October meeting,” the IG analyst pointed out.
Weston currently projects a rate hike in June and then another one in December, but the latter one is not certain at this point.
When answering a question if gold could finally break above the key psychological $1,300 level this summer, Weston said: “If you want to be bullish on gold, you need to be bearish on the U.S. economy and not see the signs of the turnaround most people expect.”
“If I was a gold bull, I would be keeping the focus firmly on U.S. data, which has been quite weak relative to expectations. If we don’t see a turnaround in the U.S. data, and deterioration continues, then we will see the continued flattening of the U.S. curve, real yields will continue to push lower and that is going to push gold up,” he said. “The Fed sees the weak data as transitory and we are concerned that it is not. And in that situation, gold would be in a really good place, but most people don’t expect that to happen.”