The Inverse Relationship Between Gold, The U.S. Dollar And Central Bankers

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Includes: AAAU, BAR, DGL, DGLD, DGP, DGZ, DZZ, GEUR, GHE, GHS, GLD, GLDI, GLDM, GLDW, GLL, GTU, GYEN, IAU, IAUF, OUNZ, PHYS, QGLDX, SGOL, UBG, UGL, UGLD
by: Bob Kirtley
Summary

On Wednesday the 28th of November 2018, we saw action in the markets that clearly displayed the relationship of gold, the US dollar and central bankers.

Rightly or wrongly, we consider the inverse relationship between the US dollar and gold to be very important.

As gold bugs, we must pay attention to the world's central bankers as every speech they make has a positive or negative affect on the dollar and inversely on gold.

Also note that when a strong dollar puts pressure on gold then the associated stocks also fall regardless of how well they are performing.

Preamble

There are a myriad of factors that need to be taken into consideration before one can determine the direction of a particular market sector and place trades accordingly. Fundamental analysis and technical analysis are two of the key methods employed in the directional determination of any market sector. However, another important aspect of this process is the influence of the world's central bankers as we live in an age where investors hang onto every word they say in an attempt to gain an advantage and trade more profitably.

On Wednesday the 28th of November 2018, we saw a perfect example of this in the markets that clearly displayed the relationship between the speech made by the Chairman of the Federal Reserve, its negative effect on the dollar and its positive effect on gold, as illustrated below.

Charts of the US dollar and gold

Taking a quick look at the chart of the US dollar, we can see it fell sharply on Jay Powell’s words.

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Gold had an inverse reaction to the dollar as it bounced on the dollar's demise.

http://gold-prices.squarespace.com/storage/Gold%20Chart%2029%20November%202018.jpg?__SQUARESPACE_CACHEVERSION=1543453127494

The reason behind this move in the market

The focus was on Jerome Powell, the Head of the Federal Reserve and his words during in a speech in New York regarding the future direction of monetary policy, especially the plan for future rate hikes. The Fed head discussed the policy of gradual interest rate hikes stating that the current level is still low by historical standards. Quote:

“and they remain just below the broad range of estimates of the level that would be neutral for the economy, that is, neither speeding up nor slowing down growth.”

The stock market was overjoyed and registered its biggest gain for some time as the Dow Jones Industrial Average gained 617 points or 2.5% by the close.

However, these comments sent the US dollar lower and it closed at 96.68 for a loss of -0.62% on the day.

With the dollar heading south, gold reacted inversely and headed north gaining $10.20 or 0.84% to close at $1223.60/Oz.

The critical word from the Fed Chairman was that the policy rate is just below neutral. We are aware that “One swallow does not make a summer” however, the softness of tone was taken as a given that the good times were back for the markets, to the detriment of the dollar.

Conclusion

First up is the importance of the rhetoric when any central banker speaks, in this case, the chairman of the Federal Reserve is probably the most important of them all. He will be listened to and every word analysed by investors, speculators and traders around the world. And as we can see by today’s action, they didn’t hang around. It should also be noted that these relationships are not set in stone and don’t always behave as expected as there are always exceptions to any rule.

In the past, the chairman of the European Central Bank, Mario Draghi, used the words “whatever it takes” to calm the markets as and when required.

Recently the chairman of the Bank of England has warned of a no-deal Brexit and outlined a scenario of falling house prices, a sterling crisis and a shrinking economy. This statement had a negative impact on the pound, however, for those owning gold in the UK they saw their investment increase in value.

The point is that we must pay attention as every soundbite emanating from the world's central bankers as they do have either a positive or a negative effect on the markets, currencies and precious metals.

As gold bugs at heart, we need to recognize that these factors are interlinked and therefore have a knock-on effect across the board.

Today’s market action would have been welcomed by investors in the precious metals sector; however, it isn’t sufficient for us to switch into acquisition mode just yet. We will continue to hold what we have and wait for a more positive set of indicators before we adopt an aggressive accumulation stance.

Go gently.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.