As the gold price rallies, what's next for the precious metal?

London (June 18)  Signals of a possible interest rate cut from the US Federal Reserve have been instrumental in boosting gold’s prospects, as we head towards the third quarter. Speculation that the central bank may cut key interest rates as early as this year has excited gold buyers.

Global trade uncertainties and fears of slowing global economic growth, coupled with a possible interest rate cut signalled unexpectedly by the Fed, pushed gold’s streak through $1,300 (Dh5,988)/ The precious metal was provided a further leg up by global investors flocking to safety after the US released its worse-than-expected US jobs data for May. This sent the commodity’s price towards $1,348 in the first week of this month.

Gold’s better prospects may be challenged if there are more attractive alternatives to the precious metal during the third quarter.

Hussein Sayed, FXTM

Since then the price has rallied further as geopolitical tensions in the Middle East rise. Gold has jumped to a fresh yearly high above $1,355 at the time of writing, and it is obvious investors are nervous based on the level of safe-haven buying. Judging by gold’s month-to-date gains of 3.82 per cent - this raises the question of what this means for the metal's price prospects in the third quarter.

The answer to that depends on several factors, starting with economic data from China and the US. The Fed has made it clear that interest rate decisions are data-driven at this point, which could be the reason many investors jumped on the gold bandwagon when May’s jobs report came in much lower than expected.

For many, weaker jobs data in the US was a red flag indicating a much higher possibility of an interest rate cut this year. However, the key benchmark influencing central bank policy is usually inflation, so it’s worth examining where that stands now. Simply put, at 2 per cent in April, inflation has undershot the Fed’s target for quite some time, meaning the regulator's pause on interest rates is warranted - at least in terms of classic monetary policy. It doesn’t necessarily mean an interest rate cut by the end of this year is justified, unless economic conditions deteriorate because of the US-China trade dispute and the resulting slowdown effect on manufacturing and investor sentiment.

If inflation starts falling significantly, there are higher chances of an interest rate cut, meaning less support for US dollar-linked instruments and more support for gold.

Gold’s better prospects may be challenged if there are more attractive alternatives to the precious metal during the third quarter - for example, better performances in other sectors like US equities. The pause in interest rate hikes is a green light for businesses and consumers to use borrowed capital to invest without the fear of a sudden rise in repayments, and Wall Street has been relatively upbeat since the beginning of the year, after the rough second half of 2018.

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Stronger equity markets would challenge gold’s attractiveness with potentially better yields other than the profit-taking seen after a short-term hedged position on gold ends. In other words, when risk appetite makes a return to the markets, investors might focus on other yielding assets such as equities, real estate and Treasuries, which may result in gold losing its lustre.

The outlook for US-China trade negotiations remains cloudy and unpredictable. According to the International Monetary Fund, the US-China trade dispute is the biggest single risk for global growth, impacting the manufacturing sector, equities and investor and consumer sentiments alike. By the same token, it is arguably the biggest single risk appetite factor, meaning that investors may turn to gold whenever there are signs of weakening growth in either of the world’s two largest economies - the US and China. I’d add that investor sentiment could be a significant risk factor if the pressure of uncertainty results in panic selling triggered by weak economic US data. This phenomenon could support gold in the short-to-medium term.

Overall, I’m watching the Fed, economic data out of the US and China and equity markets for early signs of support or resistance for the gold price in the third quarter. Expect a higher likelihood of more sudden spikes followed by profit-taking behaviour for the precious metal.


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