Fed Rate Hike and Gold

Gold price fell sharply following the Fed meeting on Wednesday, giving up $20. Investors consider the last FED news is seen as gold-negative.

The Federal Reserve increased short-term interest rates on Wednesday by 0.25%, the fourth rate hike of the current cycle which began in December 2015. Short-term rates now stand at 1.00% – 1.25%, which are still at generationally – low levels, yet now a full point higher than they were 18-months ago.  

The key from the Fed meeting on Wednesday was not simply the interest rate decision, but the language given in the accompanying statement regarding a potential reduction in the Fed’s balance sheet: “The Committee currently expects to begin implementing a balance sheet normalization program this year, provided that the economy evolves broadly as anticipated. This program… would gradually reduce the Federal Reserve’s securities holdings by decreasing reinvestment of principal payments from those securities.”

Recall that an expansion of the balance sheet is a euphemism for printing money, which is inflation. Thus, a normalization would imply a reduction in the money supply and a reduction in inflation.

Will the Fed Normalize?

We are extremely skeptical that the Fed will engage in any meaningful reduction in its balance sheet, mostly due to the central bank’s horrible record in doing so at any point in the past. Below is the Fed’s balance sheet over the last 15 years. Indeed, it is rare that the bank stops printing money for more than a few quarters at a time, its balance sheet having grown by nearly 500% during this time: 

Image A

Looking forward, a survey of Fed board members is now pricing in either 0-1 additional rate hikes in 2017, followed by 3-4 hikes in 2018, followed by 2 further hikes in 2019, as shown in the graph below:

Image B

Gold price fell sharply following the Fed meeting, giving up $20 on Wednesday afternoon, not so much because of the rate increase, but because of the language regarding balance sheet normalization.

Whether or not the Federal Reserve will actually reduce its balance sheet, the market believes that it will, and over the short run, this is seen as gold-negative.

For the week in sum, gold ended lower by $15 or 1.2% to close at $1,254 as of the final trade on the New York COMEX on Friday afternoon.

Viewed in isolation, gold remains in its neutral consolidation pattern. Short-term support should exist at $1,230 (rising dashed trendline), and the nature of any rebound that occurs at this level will tell us much about what to expect over the remainder of the year.

The more critical 2015 – 2017 support (blue line) – which is rising every week – now comes in at $1,160.

Image C

Gold Has Formed Higher Lows on Successive Rate Hikes

In contrast to the theory often purported in the mainstream media that rising interest rates are negative for gold, the precious metal has formed a series of higher lows within one week of each of the Fed rate hike announcements, shown below

Will last week’s announcement thus mark a fourth higher low forming in gold again?

Time will tell.

Christopher Aaron,
Bullion Exchanges Market Analyst

Christopher Aaron has been trading in the commodity and financial markets since the early 2000’s. He began his career as an intelligence analyst for the Central Intelligence Agency, where he specialized in the creation and interpretation of the pattern of life mapping in Afghanistan and Iraq.

Technical analysis shares many similarities with mapping: both are based on the observations of repeating and imbedded patterns in human nature.

His strategy of blending behavioral and technical analysis has helped him and his clients to identify both long-term market cycles and short-term opportunities for profit.