An eye-opening few sessions have seen gold prices surge back towards multi-month highs despite a decidedly more hawkish FOMC Statement sending the dollar lower, helped in part by the weak preliminary GDP print.  Although monetary policy is a major driver for gold prices, still apparent global risk factors continue to put a damper on risk sentiment.  The precious metal is also ignoring the absence of inflation in advanced economies as it continues to trend upwards, touching the highest point since mid-March and pushing towards levels last seen in January of 2015.  With no imminent action expected on monetary policy despite the Federal Reserve opening the door for a June rate hike, gold prices have further room to run in light of extended accommodation.  If consumer prices also continue to rebound, it could signal further reasons for holding precious metals in an investment portfolio.

Dollar Breakdown

A key catalyst for gold’s most recent run has been sustained weakness in the US dollar.  The dollar index (DXY) has notched a 1-year performance of -1.75%, falling -4.84% year to date after the Federal Reserve backed off from an ambitious tightening target.  Although initially forecasting 4 rate hikes throughout the whole of 2016, Fed Funds futures are currently pointing to a 65.80% probability of rates rising above the current 0.50% by the end of the year, a far cry from rates at 1.40% forecast back in December.  The latest Federal Reserve decision underlined the idea that the Central Bank will remain data dependent, especially in light of the tapering in GDP growth.  The preliminary reading of first quarter GDP printed at 0.50%, below expectations of 0.70% thanks weaker consumer spending, falling business investment and contracting trade.

After the strong performance for gold that ensued after the Federal Reserve decision, the GDP reading was enough to send gold prices firmly back over $1260 per troy ounce.  The resurgent correlation with the US dollar means that absent a recovery in underlying economic fundamentals, the dollar is set to suffer further losses.  A fall below current levels would send the index to the lowest level since August, however, the dollar is finding needed support in the price action, helping at least temporarily keeps gains in gold prices capped.  Nevertheless, the move overnight by the Bank of Japan to leave policies unchanged saw a rapid drop in the USDJPY pair, dragging down the dollar index in tandem.  A sustained unwind in the carry-trade could easily fuel a run in gold prices back towards March highs of $1280.70.

Inflation Creeps Higher

Even though many advanced economies are struggling to raise inflation from the threshold of deflationary territory, several of the globes largest economies are making progress towards that end.  The United States in particular is experiencing one of the fastest recoveries, with headline consumer prices expanding at a 0.90% pace on an annualized basis, outpacing most peers.  The Euro Area remains just on the cusp of deflation while the comparable Japanese figure has slipped back into negative territory, underlining the problems facing Central Banks as they try and stimulate spending and price increases.  While global interest with negative rates has been met with controversy, should inflation start to accelerate higher, holding gold as a hedge will also gain popularity, adding to the upside potential over the longer-term.

Gold Manipulation Scheme Exposed

One of Deutsche Bank’s (DB) most recent settlements with regulators involves its role in a price fixing scheme in precious metals that lasted for years in concert with other major global banking parties.  After agreeing to pay into a fund, the bank has also acceded to exposing other players including HSBC, Bank of Nova Scotia, UBS, Barclays, and Societe Generale.  Although many traders have alleged manipulation in the past, the admission that rigging has been occurring systemically for years.  Now that the curtain has been pulled back, the question remains as to how the market will behave going forward, now that there is an added level of transparency and less interference with pricing. So far there has been no real immediate market impact due to the revelations, however, if other banks are found to be culpable, it could signal a vast shift in the gold trade business.

Risks Skewed Higher

Most of the risks for gold prices remain to the upside over the medium-term in light of the fact that a June rate hike is highly unlikely while inflation continues to pickup.  Slow growth combined with an emphasis on data dependency means the dollar has further room to fall, with the inverse correlation helping to push precious metals momentum higher.  While rising rates will certainly dent demand for gold, without the conditions in place, upwards remains the path of least resistance for gold prices over the near-term.  Without a full recovery in fundamentals, the reasons for holding gold will continue to strengthen, especially with the falling dollar pressuring prices to the upside.