Will Powell’s Put Support Gold?

Fed signals more patience with its monetary tightening, despite strong economy. Why? And what does it mean for the gold market?

Minutes from December FOMC Meeting and Gold

 As everybody knows, in December the FOMC  voted unanimously to raise interest rates for the fourth time in 2018. We have analyzed the implications of that hike for gold in two editions of the Gold News Monitor (here and here).

However, yesterday, the Fed published the minutes of its latest monetary policy meeting. The document shows that despite the apparent unanimity, the tensions were growing, as a “few” officials were actually arguing for the central bank to pause:

In their consideration of monetary policy at this meeting, participants generally judged that the economy was evolving about as anticipated, with real economic activity rising at a strong rate, labor market conditions continuing to strengthen, and inflation near the Committee’s objective. Based on their current assessments, most participants expressed the view that it would be appropriate for the Committee to raise the target range for the federal funds rate 25 basis points at this meeting. A few participants, however, favored no change in the target range at this meeting, judging that the absence of signs of upward inflation pressure afforded the Committee some latitude to wait and see how the data would develop amid the recent rise in financial market volatility and increased uncertainty about the global economic growth outlook (emphasis added)

Another dovish signal was the addition of the word “some” to the post-meeting statement. As we have already analyzed in December, the Committee said last time that “some further gradual increases” in the federal funds rate will be appropriate. The minutes confirm our explanation, saying that the FOMC added the word “some” to indicate that “the Committee judged that a relatively limited amount of additional tightening would likely be appropriate”.

In other words, the Fed become more dovish, or, in the Fed speak, patient:

many participants expressed the view that, especially in an environment of muted inflation pressures, the Committee could afford to be patient about further policy firming. A number of participants noted that, before making further changes to the stance of policy, it was important for the Committee to assess factors such as how the risks that had become more pronounced in recent months might unfold and to what extent they would affect economic activity, and the effects of past actions to remove policy accommodation, which were likely still working their way through the economy (emphasis added)

This is good news for the gold bulls. However, has the Fed’s stance changed permanently? What were the reasons behind the decision to hit more dovish tons?

Mystery Behind Dovish Turn and Gold

You see, the Fed’s softer tone is not so obvious. After all, the economy remains strong – and the FOMC admitted it:

In their discussion of the economic situation and the outlook, meeting participants agreed that information received since the FOMC met in November indicated that the labor market had continued to strengthen and that economic activity had been rising at a strong rate.

To reiterate, the FOMC wrote it explicitly that “the economy had been evolving about as they had anticipated at the previous meeting”. The labor market conditions “had remained strong, while inflation was expected to “remain near the Committee’s symmetric 2 percent objective on a sustained basis.” And risks to the outlook remained “roughly balanced”.

In other words, nothing changed, but – despite all these talks about being data dependent – the Fed become more dovish. Why? There are two possible explanations. First, the US central bank got scared by Trump. We hope that this is not case, but we cannot exclude it. However, if President exerted some pressure on Powell, we would probably see it much earlier. Anyway, any weakening of the central bank’s independence should be positive for the gold market, as it would imply more inflationary policy – and gold is seen as an inflation hedge.

Second, as Greenspan, Bernanke and Yellen before him, Powell also capitulated to the Wall Street. Why do we think so? Well, the US stock prices fell 8 percent in the period between November and December FOMC meetings. Hence,

agreed that financial markets had been volatile and financial conditions had tightened over the intermeeting period, as equity prices declined, corporate credit spreads widened, and the Treasury yield curve continued to flatten.

What is important, it was the only bad development happening in the economy (together with some slowdown in the growth of foreign economies). Actually, the FOMC members acknowledged the divergence between the strong economic fundamentals and turmoil in the financial markets:

In assessing the economic outlook, participants noted the contrast between the strength of incoming data on economic activity and the concerns about downside risks evident in financial markets and in reports from business contacts.

When forced to choose, the Fed decided that signals from financial markets are more important than from the real economy. Just see that paragraph:

After taking into account incoming economic data, information from business contacts, and the tightening of financial conditions, participants generally revised down their individual assessments of the appropriate path for monetary policy and indicated either no material change or only a modest downward revision in their assessment of the economic outlook

This is what we call Powell put. At the beginning of his term, Powell seemed to be determined to end with the Fed’s reaction function which does not allow for substantial market correction. But we see that he lost the battle. His victory was the hike in December, despite the dissenters. We mean that Powell probably convinced these “few” participants who opted for a pause to a hike, but only in exchange for slower tightening cycle in 2019. 

Implications for Gold

What does it all mean for the yellow metal? Well, the minutes from the December FOMC meeting showed a dovish tilt among the Committee. The Fed signaled that it could be more patient, which was later reiterated by Powell during his Friday’s speech at the American Economic Association and Allied Social Science Association annual meeting in Atlanta, as well as by other FOMC members.

More dovish Fed should support the gold prices. Yesterday, they increased, indeed, as one can see in the chart below.

Chart 1: Gold prices from January 7 to January 9, 2019.

However, when financial markets calm down, the Fed may again become more hawkish. Given the current very bullish sentiment towards gold, the correction is not unlikely after some time. The beginning of the year is usually good for the bullion, but that rally does not last long, it often ends in March. We believe that eventually economic fundamentals will outweigh the financial volatility. When the dark clouds over the outlook clear up, the Fed may surprise markets on a hawkish side (they price in no interest rate hikes this year, which may not realize, actually). Gold investors should be prepared and always look through the current volatility.

If you enjoyed the above analysis, we invite you to check out our other services. We provide detailed fundamental analyses of the gold market in our monthly Market Overview reports and we provide daily Gold & Silver Trading Alerts with clear buy and sell signals. If you’re not ready to subscribe yet and are not on our gold mailing list yet, we urge you to sign up. It’s free and if you don’t like it, you can easily unsubscribe. Sign up today!

Disclaimer: Please note that the aim of the above analysis is to discuss the likely long-term impact of the featured phenomenon on the price of gold and this analysis does not indicate (nor does it aim to do so) whether gold is likely to move higher or lower in the short- or medium term. In order to determine the latter, many additional factors need to be considered (i.e. sentiment, chart patterns, cycles, indicators, ratios, self-similar patterns and more) and we are taking them into account (and discussing the short- and medium-term outlook) in our trading alerts.

Thank you.

Arkadiusz Sieron

Sunshine Profits‘ Gold News Monitor and Market Overview Editor

 

* * * * *

All essays, research and information found above represent analyses and opinions of Przemyslaw Radomski, CFA and Sunshine Profits’ associates only. As such, it may prove wrong and be a subject to change without notice. Opinions and analyses were based on data available to authors of respective essays at the time of writing. Although the information provided above is based on careful research and sources that are believed to be accurate, Przemyslaw Radomski, CFA and his associates do not guarantee the accuracy or thoroughness of the data or information reported. The opinions published above are neither an offer nor a recommendation to purchase or sell any securities. Mr. Radomski is not a Registered Securities Advisor. By reading Przemyslaw Radomski’s, CFA reports you fully agree that he will not be held responsible or liable for any decisions you make regarding any information provided in these reports. Investing, trading and speculation in any financial markets may involve high risk of loss. Przemyslaw Radomski, CFA, Sunshine Profits’ employees and affiliates as well as members of their families may have a short or long position in any securities, including those mentioned in any of the reports or essays, and may make additional purchases and/or sales of those securities without notice.