The US Dollar Index recovered from its lowest levels in over a year adding to some responsive profit taking in gold in front of the widely watched $1,300/oz. level. Earlier in the week, gold traded above $1,300/oz. for the first time since January 2015. Perhaps responding to the recently strong stock market and risks of excessive risk taking, comments from non-voting Fed governors Dennis Lockhart (Atlanta) and John Williams (San Francisco) suggested a June rate increase could be back on the table. Futures markets place the probability of a 25bps hike at the June 14-15th meeting in the 10-15% area, but the dichotomy between market expectations of limited rate hikes and hawkish Fed comments sparked some reversion in recent US dollar weakness and gold strength.
Today’s focus will likely be on a potential continuation of weak stock markets overnight and the ISM Non-Manufacturing index and durable goods orders. For the week, Friday’s US unemployment number should be the notable economic release, hopefully adding some clarity to Fed rate expectations. If the trend in weaker than expected data continues (notably Q1 GDP and consumer sentiment last week) and Fed rate hike expectations continue to diminish, gold is more likely to recover above $1,300/oz. and the US dollar to trade lower. A worst case scenario for gold would likely be a situation similar to 2015, when the stock market and US dollar continued to rally and Fed rate hike expectations increase.
A key support factor for gold this week has been the decline in US government bond yields, currently near 1.79%, vs. 1.83% (10-year) at the end of last week (and the month of April). Despite the FOMC rate hike on December 16th, US bond yields have declined (from 2.25% at the end of 2015) along with global bond yields, indicating declining inflation expectations, slower growth prospects and perhaps providing a key indicator that the initial hike may be a ‘one and done’. Unemployment is a notorious lagging economic indicator; US government bond yields are leading. At the onset of the last tightening cycle in June of 2004, bond yields and commodities were rallying for some time – the Fed had wind in its sails. Now it is the opposite, commodity prices have collapsed and investments in riskless US