Should Gold Investors Fear 'King Dollar'?

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Includes: AAAU, BAR, DGL, DGLD, DGP, DGZ, DZZ, FXE, GHS, GLD, GLDI, GLDM, GLDW, GLL, IAU, IAUF, OUNZ, PHYS, QGLDX, SGOL, UBG, UDN, UGL, UGLD, USDU, UUP
by: Clif Droke
Summary

Ultra-strong dollar, weak euro continues to plague gold price outlook.

Dollar's strength, ironically, could set up a summertime buy signal.

Strong dollar eventually hurts large-cap stocks, which is good for gold.

A recent fear for equity investors is the recent strength of the U.S. dollar. Many participants believe that continued strength in the greenback will undermine corporate profits by making goods produced by large U.S. multinational companies more expensive overseas. Meanwhile, the negative impact on gold investments due to an increase in the dollar’s value cannot be understated. In today’s report, we’ll discuss the likelihood of continued dollar strength and why it will limit gold’s near-term upside potential while also potentially helping gold in the traditionally weak (for stocks) summer months.

Gold futures prices were lower Monday for the first time in the last four sessions, settling at $1,281 and still staying below the closely watched $1,300 psychological level. Gold’s recent weakness has been attributed to a recent spate of consensus-beating U.S. economic data along with the dollar’s recent breakout to new 52-week highs. It didn’t help gold that the latest data showed profits at Chinese industrial firms grew for the first time in four months. This sparked some additional buying of risk assets like stocks and gave investors a reason to ignore gold based on the assumption of an improving global outlook.

The latest slump in gold is reflected in the graph shown here of the June 2019 gold futures price. The spillover impact of the strong dollar on the gold price cannot be understated. As I’ve continually emphasized in these reports, gold’s currency component is arguably the most vital factor that determines the dominant intermediate-term (3-6 month) direction of the gold price. Since gold is priced in dollars, a rising dollar index means that gold at a competitive disadvantage when investors are faced with the choice of whether to hold a higher level of cash or gold in their portfolios.

As the chart below shows, the yellow metal price remains below its 15-day moving average and 120-day moving average (blue line). The latter trend line is useful for confirming gold’s intermediate-term trend. When the gold price remains under the 120-day MA, especially on a weekly closing basis, it can be assumed that gold’s intermediate trend is controlled by the bears. With both the immediate-term 15-day moving average and 120-day MA converging at the $1,290 level, this remains the minimum price level that gold needs to decisively overcome in order to convince me that the bulls are back in the ascendant.

June 2019 Gold

Source: BigCharts

Now let’s take a look at the U.S. dollar index (DXY). The dollar is in the opposite condition as gold, with the greenback above both its 15-day and 120-day moving averages. Moreover, both moving averages are rising at a health rate which implies a large measure of built-in upside momentum for the dollar. At minimum, we should see a decisive close below the 15-day moving average on a weekly basis to let us know that the dollar’s immediate-term (1-4 week) rising trend has reversed. This would at least give gold some breathing room and allow the bulls to regain control of gold’s immediate trend.

U.S. Dollar Index

Source: BigCharts

It hasn’t helped gold’s short-term case that the dollar index has risen to its highest level in two years, rising by nearly 1.3% in just the last two weeks alone. While investors in U.S. multinational companies have reason to worry about “King Dollar,” as a recent MarketWatch article pointed out, should gold investors feel the same level of worry? After all, what bodes ill for large-cap multinational companies may end up undermining investors’ faith in the stock market rally and thereby lead to increased safety-related demand for gold. While a weaker stock market (and stronger gold demand) remains a possible outcome in the traditionally weak summer months ahead, right now it should be noted that the dollar’s value is still well below where it was in late 2016 (see chart below). Gold investors therefore shouldn’t get their hopes up just yet, for there remains plenty of upside potential for the greenback in the near term.

U.S. Dollar Index

Source: BigCharts

It should be added that a sizable rally in the euro currency would also have the effect of increasing gold’s attractiveness to overseas investors, even if the move was independent of dollar weakness. To that end, a rally in the Invesco CurrencyShares Euro Currency Trust (FXE), below, would be a favorable development for gold’s short-term outlook. To date, however, FXE remains in a downward trend and is only just slightly above its lowest level of the last year. This serves as a disincentive for foreigners to own gold right now.

Invesco CurrencyShares Euro Currency Trust

Source: BigCharts

Speaking of the gold ETFs, the iShares Gold Trust (IAU) remains below its important 15-day moving average on a closing basis as of Apr. 29. More importantly from a technical and psychological perspective, the IAU price remains under its more widely watched 50-day MA (blue line) and has been unable to rise above it all month. Based on the rules of my trading discipline, a 2-day higher close above the 15-day MA is the minimum requirement to at least confirm that an immediate-term (1-4 week) bottom has at least been made. For now, a continued cash position is recommended as IAU remains in the hands of the sellers.

iShares Gold Trust

Source: BigCharts

In conclusion, a strong dollar remains a considerable obstacle for gold in the near term. Once the metal’s currency component begins to strengthen, however, we’ll have the main ingredient needed for another sustained rally in the metal’s price. My continued expectation is for gold to commence its next rally this summer when participation in the equity market tends to decline and global market volatility often increases. Ironically, the strong dollar could eventually facilitate this weakness for large-cap, U.S. multinational companies as discussed here. This would bode well for a gold turnaround attempt based on increasing safety-related demand for bullion. But until we see significant weakness in the U.S. dollar index, intermediate-term gold investors should remain in a cash position and avoid new commitments to the metal.

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.