US Monetary policy has played its part and had an impact on many aspects of the financial markets including the precious metals sector. We have been through a period of Quantitative Easing whereby trillions of dollars were printed in an attempt to boost the economy after the great financial crash of 2008. The markets were then weaned off the money supply through a strategy known as tapering which gently brought about the end of money printing. Over this period gold prices have had a roller coaster ride reaching a new all-time high of around $1900/oz before falling back to the current level of around $1106/oz.
The investment landscape is now in a state of flux as we await, as we do every month, the results of the upcoming meeting of the FOMC. The question of ‘will she; wont she’ will be debated by all concerned all the way to the meeting of the FOMC on the 16th-17th September 2015, as the outcome will have an effect on all sectors, especially the precious metals sector.
This sector is one of the most unloved sectors of the market despite the demand for the physical metal remaining buoyant. The cost of mining gold on average is running at around $1200/oz so a number of the gold producers are struggling to generate a profit. Many have adopted cost cutting actions which, in some cases, will see a reduction in production and hence, sooner or later, the supply will be impacted thus reducing the amount of gold coming to the market. This action could lead to higher prices should the demand remain constant. We could discuss a myriad of reasons why gold prices should be higher or lower, however, in dollar terms it is the words and actions of the Federal Reserve that have the biggest impact on the price of gold. Should ‘The Janet’ decide to implement a rate hike then it is reasonable to assume that the dollar will strengthen. As the dollar strengthens it exerts downward pressure on gold in dollar terms as a stronger dollar can buy more gold. However, should the rate hike be deferred indefinitely then gold could get a reprieve as the dollar would probably correct somewhat and head lower.
The consensus is that there will be a rate hike and it is just a matter of when and by how much. The September meeting is accompanied by a press conference held by the chair, as is the December meeting, but not the October meeting which is just the release of a statement. As this rate hike is the first for many years one would expect the Fed to have a few words of explanation accompanying the announcement, so October looks to be out of the running. September has faded considerably due to the latest jobs print not living up to expectations and inflation not really achieving the Feds target and the financial markets experiencing a fair amount of volatility. Will the data be any better in December one ponders; it could be and it could also be a lot worse in which case further rate hikes would be off the table. Some are of the opinion that the economy is heading into a very difficult period and any rate hike may have to be reversed and even the introduction of more QE might be necessary to revive things. Personally, I think the printing of money is not a solution to anything, it only prolongs the agony and makes things worse a little further down the road. The road to prosperity is to work hard and save a little every week, this notion that more liquidity is a cure for insolvency is nonsense, the cure for insolvency is bankruptcy as it cleanses the market of those who for whatever reason cannot perform and clears the way for those who can perform.
There is also the question of how much; some have suggested that The Janet could just tip her toe in the water with a small increase of say 10 basis points. To be meaningful we would expect 25 basis points accompanied by some soothing words along the lines that the rate incline will be gradual and remain under say 2% for the next few years.
We have been aware that this rate hike is coming so it shouldn’t be a surprise and it could be partially baked into the cake as far as gold is concerned. It may even bring a sense of relief that it has been implemented and the sky didn’t fall in.
Finally if we don’t get a rate hike next week, the possibility of one still remains and casts a long shadow across the precious metals sector as it will have to be faced some time down the line.
Chart of Gold’s Progress
As the chart shows it has been 4 years of misery for gold bulls with not a lot to shout about.
In conclusion we will go against the grain and say that there will be a rate hike in September and that it will be 25 basis points. The dollar will rally, gold, silver and the producers will suffer setting the scene for gold to fall to the $1000/oz level.
Second guessing the Fed is always a dangerous game so stay patient and build cash for when the day comes and the bull market in gold resumes.
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In our view the bottom is not in yet and cheaper prices lay ahead.
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