Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
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FOMC rollover speculation boosts gold
Ole Hansen
Head of Commodity Strategy
Summary: Gold trades higher supported by a change in sentiment across bonds and the dollar on speculation that we may approach peak hawkishness from the US Federal Reserve. The idea being supported by the FOMC’s potential willingness to offer time to assess the economic impact of the rapid pace of rate hikes and quantitative tightening already seen. After once again being rejected at the key $1615 support area, gold as a minimum needs to break above $1735 before an end to the month-long downtrend can be called
Gold trades higher supported by a recent change in sentiment across bonds and the dollar on speculation that we may approach peak hawkishness from the US Federal Reserve. The latest recovery that followed another failed attempt to break below key support at $1615, now a double bottom, started on Friday when the now famous “Fed whisperer” Nick Timiraos of the Wall Street Journal penned an article suggesting that the Fed is preparing to downshift in pace of rate hikes by early next year. The idea being the FOMC’s willingness to offer time to assess the economic impact of the rapid pace of rate hikes and quantitative tightening already seen.
The latest boost to gold came in response to a fresh slump in US bond yields and the dollar after economic data on Tuesday showed US home prices tumbling the most since 2009 while US consumer confidence was down by more than expected. Responding to these numbers the euro has returned to parity after breaking a trendline that was rejected several times since being established in February. In addition bond yields have softened across the curve, resulting in the 2-10 year spread still trading inverted at around 40 basis points, thereby signalling an elevated, but still unlikely risk of a recession in the US next year.
At Saxo, we maintainour bullish outlook for gold and in our latest update we wrote about how the eventual recovery would need drivers to align, with the first trigger being peak hawkishness from the FOMC sending yields and the dollar lower. Being cautious we doubt that this is it, but there is clearly a growing belief the FOMC may pause soon to assess the economic impact of the current rate hike cycle which is currently pricing in a peak Fed funds rate just below 5% from the current 3.25%. In addition we maintain the view that long term inflation will end up somewhere in the 4 to 5% area, well above the current market expectations for a sub 3% rate. If proven correct, it would trigger a major adjustment in breakeven and inflation swap prices, developments that may support gold through lower real yields.
Speculators and investors, however, are likely to remain mostly side-lined until we get a clearer view on the thinking within the Federal Reserve, hence the importance of next week's FOMC meeting. According to the weekly Commitment of Traders reports, speculators in the futures market have been whipped around for the past few weeks, thereby reducing the willingness to aggressively enter the market until a clearer picture appears. The same goes for investors in bullion-backed ETFs who have been net sellers on an almost continued basis since June. Overall total holdings have slumped to 2968 tons to a 30-month low, down 11% from the April peak.
After once again being rejected at the key $1615 support area, gold as a minimum needs to break above $1735, thereby reversing a succession of lower highs, before an end to the month-long downtrend can be called. The path to that level, however, remains littered with several smaller resistance levels, especially $1687 and $1700. For now and until such time momentum can be reestablished, watch the dollar, yields and geopolitical developments for directional inspiration.
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