A Tailwind for Gold?

Gold isn't something that I talk about particularly much, mainly as it's an asset which, long ago, I placed in the 'too hard' bucket - the drivers of the yellow metal seem to change almost on a whim, it clearly isn't the inflation hedge that some purport it to be, and more often than not its direction seems to be more of a random walk than anything that can be explained by a rational or logical factor.

That, however, hasn't necessarily been the case for the last 9 months or so, as gold's historically close inverse correlation with real yields appears to have reasserted itself. The idea behind this is that, as real yields decline, the perceived opportunity cost of holding the yellow metal, which naturally has no yield, falls, hence owning gold becomes relatively more attractive. The decline in real Treasury yields of late is interesting as it comes not only due to falling nominal yields, but also due to rising inflation breakevens, with the 2-year US breakeven rate now north of 2.8%, its highest in a year.

Clearly, there remains some concern among market participants that inflation has not been fully squeezed out of the economy just yet, and that price pressures may indeed prove stickier than expected. As a result of this, we now see USD OIS, and Treasuries, priced broadly in line with the Fed's median dot plot expectation of the year-end fed funds rate, implying just 75bp of easing this year, around half what was priced at the start of 2024.

The question now, is whether markets want to pre-emptively move to pricing a more hawkish outlook than the Fed themselves have implied. In the short-term, that seems relatively unlikely, hence it will likely be relatively difficult for Treasuries to sell-off further from this point, particularly at the front-end. This is likely, therefore, to provide a continued tailwind for gold over the next couple of weeks, though with it only needing two FOMC members to revise their dot higher for the median to shift in a more hawkish direction, gold bugs may be wise to exercise some caution as the March FOMC meet nears.

Michael Brown | Market Analyst at Pepperstone

Subscribe to our full email newsletter at: https://okumarkets.com/newsletter

Find Michael on X: @MrMBrown