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Gold rises in the face of more market turmoil

Commentaries & Views

The Federal Reserve raised its target interest rate by three-quarters of a percentage point on Wednesday to stem a disruptive surge in inflation. The central bank also projected a slowing economy and rising unemployment in the months to come. The rate hike was the biggest announced by the U.S. central bank since 1994 and came six months after Fed Chairman Jerome Powell said during a congressional hearing in December that it's time to retire the term "transitory" when discussing the current U.S. inflation trends.

Moreover, the institution which is now so far behind the inflation curve that it must raise interest rates at the fastest clip in nearly 30 years, is insisting it can do so without causing a recession during a sovereign debt crisis. In order to suppress the obviously out of control inflation it did so much to create, the Fed must slow the economy meaningfully with U.S. debt to GDP at over 130%.

During a highly entertaining Q&A press conference on Wednesday which followed the Fed's FOMC statement, a notably frustrated Fed Chair Powell artfully dodged questions about whether a recession was inevitable. The head of the world's most powerful central bank proceeded to lay out a soft-landing scenario but also stated that circumstances were somewhat out of the Fed's control.  "We're not trying to induce a recession now. Let's be clear about that," Powell said.

The problem is many of the forces fueling inflation, higher energy and labor costs along with supply-chain issues, are beyond the Fed's control. But the largest factor, massive amounts of money infused into the economy via Modern Monetary Theory (MMT), was its own doing with an able assist from Congress. And this was a blatant monetary policy error driven by politics.

Although the marketplace reacted to Fed-speak with a "buy the news" short-covering bounce into the close of trading on Wednesday, investor deleveraging quickly returned on Thursday and fresh 52-week lows in U.S. big board indices are likely in the cards later today. As stocks, bonds, and crypto continued to selloff on Thursday, the gold price zoomed to resistance at $1850 along with silver back-testing formerly strong support at $22.

When it was announced last Friday that U.S. Consumer Price Index (CPI) inflation rose unexpectedly last month to a fresh four-decade high of 8.6%, the gold price decoupled from the stock market to rise $50. As safe-haven buying came into both bullion and the U.S. dollar, while general equities were being sold aggressively, this was the first sign of investors beginning to lose faith in the Fed's attempt to engineer a soft-landing.

While the monetary punch bowl is being drained by the world's largest central bank, the Fed has also acknowledged that it waited too long to address runaway inflation by incorrectly deeming it "transitory" for several months. And now the market is expected to believe the central bank will do what is necessary to clean up its own mess without creating a recession.

This is obviously too much to ask of investors, as they hit the equity and crypto panic button while continuing to divert some of the proceeds into bullion this week. Gold has resumed its role as a safe-haven, while financial markets worry about aggressive central bank tightening globally and U.S. economic data deceleration. Recession fears are growing and that is triggering an exodus of equities and influx of safe-haven purchases of bullion. ?

Furthermore, the U.S. dollar began to roll over after other major central banks followed the Fed with strong tightening signals this week. Adding to the dollar's weakness after Fed-speak were reports that ECB President Christine Lagarde told finance ministers that the European Central Bank's new anti-crisis tool will launch if borrowing costs for weaker nations climbs too fast.

Although both gold and silver remain in their respective downtrends since peaking in March, the de-coupling of precious metals from continued marketplace deleveraging is a positive sign for the sector. A quarterly close in Gold Futures later this month above $1900 would suggest that a sustainable bottom is in place.

Meanwhile, despite the gold price remaining near the key $1850 area, gold equities continue to be pressured with margin call selling and deleveraging amid "risk-off" attitudes. The GDX is attempting to hold the $30 level that has been price support and resistance on a weekly basis several times over the past six years and has created a series of higher lows since late September of last year.

However, after selling down towards long-term support at $35 into Fed-speak, the higher-risk GDXJ is attempting to fend off closing at a fresh 52-week low with the stock market. Historically, the month of August has seen gold stocks create significant bottoms after long consolidation periods.

In 2016, the mining space experienced a similar move to the 2020 up-leg from mid-January to August, which saw the GDXJ zoom nearly 300% from an accumulative bottom in just 6 months. Once the 2016 up-leg peaked mid-year, the consolidation of those out-sized gains took 2-years to complete into August of 2018 and bottomed after a 48% correction.

The more recent move in the junior miner ETF from March to August 2020 took just 4.8 months to complete after moving up roughly the same staggering amount from a pandemic induced spike low. A similar 48% correction from an August 2020 peak in the junior miner ETF at $63.72, would see the $32-$33 level possibly being tested after the FOMC meeting at the end of July.

In the meantime, many higher-risk juniors may continue to lag the miners until either M&A heats up in the PM sector significantly, or the gold price makes $2000 a solid floor as opposed to being strong resistance for more than a decade.   

Anyone who remembers the start of the 2008 global financial crisis (GFC) knows the importance of liquidity when marketplace sentiment is tanking. It is also important to point out that the mining space bottomed five months before the stock market during the GFC into March 2009. Therefore, with the stock market looking vulnerable to more panic selling, holding a large cash position in anticipation of buying opportunities if prices drop further in quality juniors is prudent at this time.

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Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Metals Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Metals Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in commodities, securities or other financial instruments. Kitco Metals Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.