Published on 10/10/2017 4:46:42 PM | Source: Quantum Tax Saving Fund
Gold Outlook– Chirag Mehta By Quantum Gold Fund, Quantum Gold Savings Fund, Quantum Multi Asset Fund and Quantum Equity Fund of Funds
The specter of higher rates as implied by Fed’s hawkish posture accompanied by a seeming attempt to unwind Fed’s bloated balance sheet led to a renewed strength in the dollar and declining gold prices. Odds of a Fed rate hike by December rose to about 70%, up from less than 30% a month ago. Markets perceived a remarkable shift in political focus in Washington from the hapless health- care overhaul to more growthfriendly issues like tax cuts and reforms aggravated pressure on gold prices. The backdrop of rising geopolitical tension didn’t prove enough to stall the decline in gold prices. Gold prices ended the month below the psychological $1300 an ounce mark at $1280, a decline of 3.1% for the month.
A risk-on environment as well as a high probability that the Federal Reserve will implement one last interest rate hike for this year have weighed heavily on the price of gold. The signal that an interest-rate hike in December was probable and less impactful than the overall tone which suggested that the Fed would raise three additional times in 2018. Fed’s hawkishness is largely relating to the urgency related to normalize monetary policy as opposed to the presence of an ideal economic backdrop. Yellen said that it would be imprudent to leave rates on hold until inflation reaches 2% this year. She also admitted that the Fed may have misjudged the recovery but insisted that rate hikes were coming and that gradually raising interest rates is the most appropriate policy approach amid higher uncertainty about inflation.
Federal Reserve also announced the initiation of their process to liquidate the massive $4.5 trillion balance sheet starting October, with the initial liquidation of $10 billion. The great unwinding contains uncertainty. Never in the history of the Federal Reserve have they acquired such a massive balance sheet, nor have they moved towards a process of liquidating that balance sheet.
In as much as the tension between North Korea and the United States has escalated to a new level, it is still for the most part based upon threats and rhetoric from both sides. Yellen’s hawkish comments overshadowed the earlier heated North Korean war of words.
As the Fed prepares to shrink its $4.5 trillion balance sheet from October, the bank could also lower its prediction for the pace of further rate hikes as price increases stay muted. The fact that the Fed members lowered their forecast for their own future Fed funds rate indicates that the Fed may again kind of undershoot what they’re predicting they’re going to do for rates. The intent may be there but it will remain data dependent and there is no certainty that U.S. economic growth can sustain that level of tightening. Unexpected decline in August retail sales raised concern over the economy’s strength. The August decline in sales and downward revisions to the prior months make it more likely that consumption, the biggest part of the economy, will be hard-pressed to match the 3.3% growth pace of the prior quarter. The Fed’s Beige Book report also revealed that the majority of districts reported limited wage pressures and modest to moderate wage growth. Federal Reserve Governor Lael Brainard’s comments also reflected a similar sentiment who said that the U.S. central bank needs to pay careful attention to underlying inflation before raising rates again, as longer-run price pressure trends appear to be lower.
Gold could quickly recover from its recent slide as the Federal Reserve may raise interest rates less than forecast because of low inflation and also there lies high probability for U.S. tax reforms to disappoint, while global political risks abound. Tax cuts and infrastructure spending do help boost the economy. However, this requires huge funding and the more relevant question is that where is the money coming from? It’s premised on hope. Let’s spend now and the resulting growth will pay the bills later. The deficit will balloon, and if the Fed raises rates, it will create higher borrowing costs to service the growing deficit and in no time the dollar will come under pressure. In conclusion, U.S. fiscal policy represents the biggest upside risk for gold and all the more when other central banks are looking to join the monetary policy tightening bandwagon.
Given the current macroeconomic scenario, we expect downsides in gold to be capped and prices to move up gradually albeit with increased volatility. We reiterate that the real positive trigger for gold would be when market expects Fed to be unable to normalize monetary policy and see it reverse its course at first signs of crisis.
The world is in great disequilibrium, both with respect to the global economy and geopolitics as well. The fallout of the geopolitics globally seems to now cap the downsides in gold. Given the macro backdrop, gold will be a useful portfolio diversification tool and thereby helping you to reduce overall portfolio risk.
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