How will the Fed rate and inflation outlook affect precious metals?



Gold bars and paper money issued by the Federal Reserve (US dollar) – Photo: Shutterstock

Precious metals are seeing positive market momentum after sharp declines in recent months, with gold and silver prices rebounding decisively from year-to-date lows hit in July.

Silver saw its best weekly performance in more than two years in the last week of July, while gold posted its second straight week of gains and moved above $1,770.

A confluence of factors, which will be explained in detail below, has led to the strong rally in gold and silver prices recently, causing the market to bet on the possibility that the Federal Reserve will be forced to reverse its course. interest rate hike path in 2023. .

Looking ahead, signals that the Federal Reserve is truly willing to let go of the brake pedal need to emerge for this short-term rebound in silver and gold to result in a major trend reversal.

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Weekly Gold and Silver Price Performance: Rebound in Progress

a graph showing the performance of gold and silverWeekly Gold and Silver Price Performance as of August 2, 2022 – Photo:, Source: Koyfin

Fundamental analysis of gold and silver: summer relief, autumn shock?

What are the main factors influencing gold and silver prices today, and what does the future hold?

Gold and silver prices are currently highly correlated with each other as they continue to be affected by the same macroeconomic factors, most notably the outlook for US Federal Reserve policy, which is indicated by the variations US real yields.

The fact that the United States economy slipped into recession in the second quarter of this year served as a positive catalyst for the short-term trend in precious metals, which rose in value due to lower rate expectations. of future interest.

The market believes the recession will lead to a rapid drop in inflation, forcing the Fed to consider economic conditions in future policy decisions.

There is an extremely close correlation between gold and silver in 2022

a chart showing the actual returns of gold, silver, and the United StatesUS Gold, Silver and Real Yield Prices – Photo:, Source: Tradingview

The market has already priced in a peak in US interest rates of around 3.4% in December 2022, followed by a decline in the first half of 2023.

Yields on 10-year Treasury bills, an indicator of US economic growth and the Federal Reserve’s monetary policy, fell to levels not seen since early April. US real yields, a barometer of the Fed’s monetary policy stance, also fell sharply

The strength of the US Dollar (DXY) was weakened by deteriorating economic growth prospects and falling interest rates, giving assets like gold and silver huge leeway.

The market priced in a Fed rate cut in 2023, which weighed on US yields and the US dollar

Chart of Federal Rates, Dollar and US 10-Year Real YieldsFed Interest Rate Futures, US 10-Year Yields and US Dollar Index (DXY) – Photo:, Source: Tradingview

Gold and Silver Analysis: Three Inflation Scenarios and Their Price Implications

Does the market correctly price a more dovish Fed as early as 2023, or did it miscalculate here?

The final answer will be determined by the inflation trend in the coming months.

If inflation starts to decline at a steady pace and faster than expected, it will reinforce the belief that a weaker economy could actually cause the Fed to change its plans and adopt a more dovish stance in 2023.

If inflation continues to be persistent at these levels or declines less than expected, but the economic situation continues to hold up well despite this, this could be the worst case scenario for precious metals, as it implies that further increases in Fed rates will be needed. to deal with inflationary pressures.

Finally, keep an eye out for a scenario that the market may not yet be pricing correctly, particularly inflation which will rise from here – say above a 10% threshold – despite an economic downturn. and higher interest rates.

In this case, inflation expectations could become unanchored among the population, taking us back to the Great Inflation of the 1970s. In the short term, precious metals could experience significant volatility as the Fed will try to do everything to control inflation. ‘inflation.

After the initial shock, however, people will gradually lose faith in the Fed’s ability to control inflation through rate hikes, and investors will flock to traditional inflation-hedge assets such as gold (see Gold and Inflation: Why Should Traders Prepare for Inflageddon?)

What impact could the inflationary trend have on gold and silver in the coming months?

Inflation trend The Fed’s reaction Market impacts on
gold and silver
Fall faster than expected Dovish and strengthen market prices during Fed rate cuts in 2023 Bullish
Sticky or droopy but lower than expected falcon and the market may reassess the Fed cut in 2023 if the economy remains strong Bearish
Above 10% falcon but the loss of confidence in central banks could lead investors to seek inflation hedges Strongly bullish

Read more…

Gold jewelry scattered on a gray background
Gold bars on black background

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