Dollar Surge Pushes Gold To The Sidelines

by: Clif Droke

Dollar index rallies to a new 52-week high on global economic fears.

World's central banks respond with stimulative monetary policies.

Gold price pressured for now, but fear factor will come to its aid.

A confluence of weak economic data from around the world has caused central banks to hold off on raising rates. Even more tellingly, some banks have announced stimulative monetary policies. The recent news has sent chills down investors’ spines and has resulted in a flight-to-safety move into the U.S. dollar. The short-term implications of the dollar’s strength are negative for gold, a point I’ll address in today’s report.

Global financial markets were jolted on Thursday when the European Central Bank cut its growth forecasts and indicated it would delay its first interest rate increase. The ECB also announced a series of quarterly targeted longer-term refinancing operations (TLTROs) to begin September 2019, running through March 2021.

ECB President Mario Draghi said the eurozone economy was still characterized by weakness and uncertainty. He specifically cited the “persistence of uncertainties related to geopolitical factors, the threat of protectionism and vulnerabilities in emerging markets,” which he said were undermining confidence in the economic outlook. His announcement caused an intensification of fears over the fragile state of the global economy.

European bond yields declined after the announcement, but more tellingly, the euro currency plunged to a new 52-week low on Thursday. Shown here is the Invesco CurrencyShares Euro Currency Trust (FXE), my favorite euro proxy. The weakness in the euro is one of the factors which continue to weigh on gold prices, as discussed in recent reports.

Invesco CurrencyShares Euro Currency Trust

Source: BigCharts

Along with the ECB, Canada's central bank also abandoned its erstwhile tight monetary policy in the wake of gloomy economic data. The Bank of Canada left its benchmark rate unchanged on Wednesday after indicating that the timing of higher rates was “uncertain.”

Elsewhere, Australia’s economic growth nearly halted in the second half of 2018, according to the latest data. The country’s economy grew at 2.3 percent last year, according to Australia's statistics agency. However, it slowed significantly in the second half of last year as consumer spending declined and the nation’s formerly hot real estate sector cooled off. The economic data, which points to contraction, is significant since Australia hasn’t had a recession in almost 30 years.

The ECB has now joined the Federal Reserve and China’s central bank in embracing a dovish monetary policy. For years, the policies of world’s central banks were discordant. Yet now, for the first time in a long while, it appears that a global synchronized monetary policy is emerging. This could be just what's needed to put the global economy back on a bullish track from an intermediate-to-longer-term perspective. In the short term, however, investors are still suffering from fear and uncertainty. Until they see evidence of a recovery in the economic numbers, they’re likely to remain in defensive mode.

This defensive posture is perhaps nowhere more evident than in the recent performance of the U.S. dollar index (DXY). Shown here is the latest spike in the DXY to a new 52-week high. The runaway upside move in the dollar has put new pressure on commodity prices, which in turn could undermine emerging markets which depend on commodity exports. In other words, a dollar rally could well set off a chain reaction move resulting in lower commodity prices and, possibly, another round of selling in the equity markets of the leading emerging nations. Regardless of the possible fallout in the emerging markets, the short-term implication of the dollar’s rally is bearish for commodities.

U.S. Dollar Index

Source: BigCharts

Since gold is priced in dollars, the metal’s currency component will weaken from the dollar’s strength in the near term. The question confronting gold investors, however, is whether gold’s fear component is strong enough right now to nullify its weakening currency component. After all, if investors are worried over the prospect of a global economic recession, wouldn’t gold stand to gain from safety-related demand?

This question can be answered in the affirmative from an intermediate-term (3-9 month) perspective. However, in the very short term gold could just as easily suffer from residual selling pressure along with other asset prices. Liquidation, especially in a selling panic, doesn’t discriminate and gold often succumbs to the spirit of “sell everything” in the midst of a global market rout. For that reason, I’m continuing to urge a defensive approach toward the metal after gold recently confirmed a short-term “sell” signal per the rules of my trading discipline. Until the dollar reverses its rising trend, I don’t recommend initiating new gold purchases.

Below is the April 2019 gold futures price in relation to its 50-day and 200-day moving averages. Previously I alluded to the likelihood of the gold price testing its psychologically significant 200-day MA (blue line), which is right around the $1,260 level. I still believe gold will hit this level before its latest correction is over. What’s more, if the dollar continues to rally we might even see a move temporarily below $1,260 before gold finally stabilizes. This is just a best guess, however, as price predictions are mainly the province of speculators. What’s most important from the perspective of this report is gold’s dominant short-term and intermediate-term direction in view of the U.S. dollar’s strength.

April 2019 Gold

Source: BigCharts

Turning our attention to my favorite gold-tracking ETF, the iShares Gold Trust (IAU) is still below its 15-day and 50-day moving averages and looks poised close the latest week below both trend lines. If IAU does finish the week below the 50-day MA then its interim trend must be classified as neutral-to-bearish. As previously mentioned, last week’s downside moves reversed IAU’s 4-month upward trend and – temporarily at least – gives the gold bears an advantage. We’re now waiting for IAU to close two days higher above its 15-day MA, which will confirm an immediate term (1-4 week) bottom per the rules of my trading discipline. Right now, though, a combination of a strengthening dollar and a weak euro outlook is weighing on the gold ETF. Consequently, I recommend that we remain in a cash position until the latest wave of selling pressure in the gold market has subsided.

iShares Gold Trust

Source: BigCharts

For now, participants should keep their powder dry while we wait for the gold price to bottom and for the U.S. dollar to weaken. As long as the dollar index is in rally mode, the gold price will face serious headwinds. However, gold’s important “fear factor” is still bullish and should eventually come to the metal’s aid once the latest dollar rally peaks. Investors will almost certainly remain fearful over the global outlook, and that uncertainty will inevitably lead to renewed safe-haven purchases of the metal once the latest panic has lifted.

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.