Gold and Inflationary Pressures

Gold and Inflationary Pressures
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The gold market had a rough summer in 2018. As we head into the final four months of this year, gold broke a bullish trading pattern that had been in place since December 2015. The yellow metal made a series of higher lows until July 2018 when the price slipped below a level of critical technical support on the weekly chart. 

Source: CQG

As the weekly chart highlights, the precious metal had made lows in December 2015, the final month of 2016, and it did the same in December 2017. Until 2018, the low from the last month of the previous year held as a level of rock-solid technical support for the yellow metal. However, in July 2018, gold broke below technical support at the December 207 bottom of $1236.50 per ounce and fell to a low of $1161.40 in August. A rising dollar, the prospects for higher interest rates in the United States, and trade issues that weighed on the prices of most commodities combined to create a potent bearish cocktail for the price of gold and other precious metals.

Gold is a metal that tends to thrive during periods of fear and uncertainty in markets. Moreover, it is one of the most consistent barometers of inflationary pressures which eats away at the value of fiat currencies. However, the dollar has found support from its yield differential with the euro currency. The short-term gap between the dollar and euro rates has risen above the two percent level and could be heading for as high as 2.65-2.90 percent by the end of 2018 if the Fed decides to hike rates by 25 basis points twice more in September and December FOMC meetings. At the same time, recent data on both the Producer and Consumer Price Indices have shown that the rate of inflation has risen to the U.S. central bank’s two percent target rate. The rise in inflation is one of the primary reasons the Fed is continuing to tighten short-term credit. In a recent interview on CNBC on the occasion of his eighty-eighth birthday, legendary investor Warren Buffett spoke about the rise of inflation from the vantage point of his investments. Buffett’s Berkshire Hathaway owns Benjamin Moore Paints, and he commented that the price of paints has risen because of inflation when it comes to the ingredients that go into the production of the company’s products. There are many other examples of inflationary pressures in today’s economy. The cost of healthcare and education continue to skyrocket, and while many commodities prices have moved lower under the weight of a rising dollar and higher rates over the recent months, the price of a grocery basket at the supermarket continues to rise on the consumer level.

The price of gold has moved lower, primarily because of the dollar’s strength. However, the dollar can be a mirage because we measure the strength or weakness of the U.S. currency against other foreign exchange instruments like the euro currency. If the value of all of these means of exchange are declining and the dollar is only falling a bit less than the others, we could see a reversal in the price of gold which is the exchange instrument with the longest history.

If inflation is rearing its ugly head, it may not be long before gold resumes the ascent that started at just below the $1050 per ounce level in late 2015. The price of gold declined in fifteen of the last twenty weeks at the end of August. It may not be long before two-way price volatility returns to the yellow metal which will increase trading opportunities for market participants. 

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