The Fed, Interest Rates and Gold

Release Date: 
Friday, December 18, 2015

Gold and Silver Prices
Gold prices retraced some of its earlier losses which were spurred by the first Federal Reserve interest rate hike since 2008.

“Gold edged higher on Friday, recovering from its biggest daily loss in five months as stocks and the dollar retreated, but remained near multi-year lows after the U.S. Federal Reserve lifted interest rates for the first time in nearly a decade.The metal has recovered some lost ground after bottoming out on Thursday at $1,047.25 an ounce, within a few dollars of a near six-year low reached on Dec. 3…

“’Hiking cycles aren't always bearish for gold. The data is pretty mixed historically," Macquarie analyst Matthew Turner said. ‘The Fed is more aggressive in its forecast of interest rate rises than the market, but so are they in their expectation of rising inflation. One will only come true if the other does.’” (“Gold price recovers from biggest dip in 5 months after Fed rate rise,” Reuters, 12/18/15.)

Gold ended the week down $8.10, closing at $1,067.10. Silver prices closed at $14.18, up $0.19.

The Fed, Interest Rates and Gold
Author and business journalist Peter Cooper explains why the Fed’s decision to raise interest rates can spark a new bull market for gold.

“So the Fed stopped playing with the market and finally increased rates by 0.25 per cent on December 16th. This had become the consensus view and came as no shock, so nothing much happened in financial markets, at least at the moment of long-delayed action… Where the price of the yellow metal goes next is a tough call but there seem to be two main scenarios doing the rounds right now.

“First, there is an extension of the Goldman Sachs’ theory that the dollar will continue to strengthen and gold weaken as interest rates gradually clock higher and higher. The problem here is that Goldman holds a terrible record on gold price predictions over the years, and the long-dollar trade is the most crowded in the world.

“Whoever made money following the wisdom of crowds? … Parabolic curves also always end in disaster in markets, almost always after final spike. You could argue that this final spike is still to come for the US dollar but if so it should not be far off…

“Elliott Wave theorists also like this scenario as it would put in what many of them see as the fifth and final wave of the gold bear market. Followers of Avi Gilbert’s lively discussions will know that this kind of mini ‘flash-crash’ for gold would set the scene for a 2009-11 style rally in the gold price - which trebled from its low to knock on the door of $2,000 an ounce by April 2011.

“I suppose there is a good reason why so many long-term asset holders - such as the global central banks - like to hold gold and often no not trade it over many decades.  It’s an insurance policy. Nothing holds its value like gold over the long-term. Companies come and go… The paper US dollar has been losing value ever since it was first printed. Gold from an Egyptian tomb still does the business…

“Perhaps it is best to be a contrarian anyway. Buying low and selling high is a very easy and proven route to riches and yet so many people do the opposite, like selling gold now and buying back later at higher prices. If you can’t get this much right then you should not be investing…

“Where does money go when the conventional global financial system comes badly unstuck? Well we saw in 2009-2011 that the reflex reaction of buying gold and silver was still very much in place. Gold and silver recovered and boomed in price while other asset prices were still on the floor or close to it. If what we are about to see is a bigger and more spectacular bubble going bust then expect the same behavior, at first by the few and then by the crowd.” (“Where Next For Gold With Fed Rate Decision Finally Done?” Gold-Eagle, 12/17/15.)

Rate Hike Signals Time to Buy “Cheap” Insurance With Gold - Brecht
Kira Brecht, managing editor of TraderPlanet and Kitco commentator, warns investors the Fed’s decision to raise interest rates may derail the financial markets. As such, she urges people to include gold in their portfolios.

“The U.S. Federal Reserve finally pressed the ‘lift-off’ button, edging short-term interest rates off their near zero percent floor at its mid-December meeting. Beware: the Fed is not driving a finely tuned Ferrari down the Autobahn that responds to the lightest touch of the wheel. The Fed is trying to navigate an unwieldly $18.1 trillion GDP economy more akin to an 18-wheeler truck. There are a lot of moving parts and a lot of areas that the Fed really can't control. There's lots that can go wrong…

“Scenario A: What if the Fed got it wrong and hiked too early –and economic conditions begin to slow in 2016 and inflation fails to bounce toward its 2% target. Could the Fed be forced to slow down its expected pace of rate hikes in 2016, hold steady or even cut rates again? Or

“Scenario B: What if the Fed got it wrong and hiked too late –and the U.S. economy rebounds more strongly than expected in 2016 with a faster pace of growth and rising rates of inflation. Could the Fed be forced to hike rates faster than expected?

“The markets probably wouldn't like either scenario… The Fed is crossing its fingers that it's right and just moving ahead, well because its time... But, there are lots of ‘what ifs’ lurking in the shadows.

“Gold has always been an ‘insurance’ vehicle throughout history. A safe haven investment. A hedge against inflation, against currency devaluation, against geo-political risk. A hedge against economic weakness and overall uncertainty. And, with gold trading just around $1,050 per ounce, versus its all-time high above $1,900 some may even start to view the metal as ‘cheap’ insurance.” (“What If The Fed Got It Wrong? Time To Buy Some Insurance?” Kitco Commentaries, 12/18/15.)

World Gold Council: Gold Demand Optimistic in 2016
The World Gold Council issued a report stating gold demand should be strong in 2016 as investors continue to seek a long term hedge and wealth preservation asset.

“The outlook for gold demand in 2016 remains optimistic despite the prospect of further rises in US interest rates, the World Gold Council (WGC) said in a report.

“The US Federal Reserve decided to start to normalise US monetary policy after seven years of near-zero interest rates … While this has strengthened the dollar, demand for gold in US dollar terms is not always the most relevant factor for most investors, the WGC said. ‘In fact, our research shows that higher interest rates are not necessarily bad for gold,’ it added

“Physical demand for gold is global, it said, noting that more than 90 percent is from outside the US, primarily China and India. In these economies, the local price matters most, the WGC said…

“’If there is a temporary downward impact of the price of gold due to a US rate rise then this could well lead to increased demand in price sensitive markets such as India and China,’ the WGC said…

“Gold continues to play a very effective role as a hedge … And while there are some concerns about GDP growth across emerging markets, economic output continues to increase and so do incomes. ‘This, in turn, strengthens the case for gold as a long-term strategic asset and wealth preservation tool ... Gold’s role as a portfolio diversifier, a wealth preservation tool and a tail risk hedge will continue to prevail due to … high liquidity risks. Finally gold’s cultural significance endures….’”  (“Gold’s 2016 Demand Outlook Optimistic – WGC,” The Bullion Desk, 12/17/15.)

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†This material has been prepared for private use. Although the information in this commentary has been obtained from sources believed to be reliable, Goldline does not guarantee its accuracy and such information may be incomplete or condensed. The opinions expressed are subject to change without notice.

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