The Pullback In Gold Could Be Healthy

The Pullback In Gold Could Be Healthy

Last week, the gold market received conflicting signals when it comes to US interest rates and the path of the dollar. The Fed meeting at the end of January was highly supportive of the price of the yellow metal as the Fed told markets they would exercise “patience” over the coming months when it comes to increasing the Fed Funds rate.

Moreover, the central bank said that they might consider altering their program of balance sheet reduction which has been pushing rates higher further out along the yield curve. Gold tends to move higher in a low interest rate environment when the dollar experiences pressure.

The short-term rate moved higher by a full one percentage point in 2018 which was 25 basis points higher than the central bank had indicated at the start of 2018. Robust economic growth and inflation at the Fed’s two percent target rate caused the Fed to add another hike to their agenda last year. However, the recent volatility in the stock market and concerns over the trade dispute between the US and China caused the central bank to take a more cautionary stance at their latest meeting.

Last year, rising interest rates caused the dollar to rally starting in February. When the Fed added another rate increase to their agenda, it sent gold to its low for the year at just over $1160 per ounce in mid-August. However, even though the dollar made a higher high in the aftermath of the 2018 low in gold, the price of the yellow metal started to rally, and it has been making higher lows and higher highs since last summer.

In the aftermath of the latest Fed meeting, gold reached a high at $1331.10 on the final day of January. Late last week, another robust employment report threw a bucket of cold water over the gold rally, and the price was trading below the $1310 per ounce level late Wednesday. 

Source: CQG

As the daily chart highlights, gold is now correcting from the recent high. Relative strength and price momentum indicators had risen to overbought conditions as the price of gold hit its most recent peak. However, open interest in the futures market which measures the total number of open long and short positions is around the 481,000-contract level which means that the market is not overcrowded with positions. The odds of a deep correction with the metric at the current level are low.

Gold came a long way from $1161.40 to $1325.40 on the continuous contract from mid-August until the end of January, a rise of over 14 percent. There is likely to be support for the yellow metal at the $1300 and the $1275 level.

Meanwhile, markets rarely move in a straight line. A corrective move in the price of gold could turn out to be healthy for the market if the yellow metal can find another higher low which would keep the bullish pattern intact. The midpoint of the move from the low to the recent high on the continuous futures contract stands at $1243.40 which means gold could still have some downside. However, a higher low above that level could set the precious metal up for a higher high sooner, rather than later. 

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