Chief Market Strategist at FXTM
Unlike
the typical start of a trading week, Monday has kicked off with big market
moves. Following six days of steep gains, Gold
has finally broken the 2011 record high of $1,921, reaching $1,943. Meanwhile,
the Dollar seems to have lost the
title “King,” at least for now, as it continues to be dragged lower despite all
the negative news which used to attract inflows from global investors.
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Against
major currencies, the USD is trading at a 4-month low against the Yen, 15-month
low against the Australian Dollar, 22-month low against the Euro and 5-year low
against the Swiss Franc. That is clearly broad weakness in the Dollar and not
driven by risk-on/off behaviour. Plunging risk appetite is no longer translated
into a strong Dollar, otherwise the tit-for-tat closures of the Chinese and US
consulates which sent global equities lower last week should have driven
inflows into the Greenback. This didn’t happen.
I am
still afraid to call the Dollar’s decline a structural change in the currency’s
outlook. The US Dollar still represents more than 60% of global currency
reserves, so it’s only when this figure begins to decline that we might
possibly call the Dollar’s weakness a structural change. However, several
factors are driving the Greenback lower, with real yields being the dominant
factor as the Fed is likely to continue holding interest rates lower for a
prolonged period of time. For this same
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Negative
real yields and trillions of Dollars in monetary and fiscal stimulus are
threatening to create bubbles in several asset classes, and I believe many tech
stocks are already in this territory. The question several investors may be
asking now - is Gold also in a bubble?
In
terms of real price, bullion is still under the 2011 peak when inflation is
accounted for, and well below its peak in 1980 when the price reached $835 per
ounce. On both occasions, the price tumbled over the following months and
years. Back in the 1980s, inflation was skyrocketing and US 10-year yields were
trading at 13% in early 1980 and peaked at around 16% in 1981.
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There
was a strong belief that inflation would remain at double digits which caused
the buying spree in Gold, but over time this fear diminished and then the
longest bull market in treasury bonds occurred until today. In 2011, it was a
similar situation as central banks across the globe, led by the Federal
Reserve, began lowering rates and pumping liquidity into financial markets
during the Global Financial Crisis.
However, several years later, the risks of deflation were still greater than
inflation. Here we are again in a similar scenario, but the measures taken
today have far exceeded the ones in 2009 in terms of fiscal or monetary stimulus.
With
inflation expectations returning to pre-Covid-19
levels, the issue becomes how long the Fed can afford to keep inflation running
above target to support their employment mandate. The longer they keep rates
low and the higher inflation expectations go, the more likely we are to see
Gold benefiting, and I do not think this relationship will break any time soon.
Looking at open interest in the futures markets, there does not seem to be
excessive speculative positioning. This suggests physical buying and exchange
traded funds are currently the key factors driving the price, which means a
break above $2,000 will likely lead to increased speculative positioning that
could push prices even higher.
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