So the U.S. elections did go as many had anticipated and lead to shockwaves in the financial markets across the world. And even though this news, which is considered something that raises the uncertainty in the markets, led to a very short lived rally in both gold and silver, this rally soon changed to a plunge in prices. So what’s going on with precious metals and what’s up ahead? Besides digesting the results of the elections, other news and events to consider this week include: U.S. retail sales, CPI and the testimony of the Chair of the FOMC.
Now that the U.S. presidential elections are (finally) behind us we can focus more on markets and consider if the newly elected President will impact the direction of the U.S. economy. For now, the main things people expect are fiscal stimulus in the form of infrastructure spending – at least that was the one key issues under Trump’s platform – and cutting taxes. And if these issues are approved by Congress, they could lead in the short and even medium term to a boost in U.S. inflation and GDP. But for gold and silver this news didn’t boost their demand consider they took a dive last week. Why is that? After all, if the markets expect higher inflation down the line shouldn’t that raise the demand for bullion? Well, it seems that –as I have pointed out in the past – the direction of long term treasury yields and the U.S. dollar are the key components in moving gold and silver. Just consider the following chart of the direction of the spread between the 10 year and 2 year U.S. treasury yields and gold prices throughout 2016.
As you can see, the recent spike in the spread – which means people expect higher inflation and higher yields in the coming years without a sharp rise in short term interest rates – also coincided with the sharp plunge in gold price. And the U.S. dollar, which also gained a lot against the Euro and Yen also helped pressure down precious metals. Considering the markets still expect higher yields and stronger dollar – mainly over the possible trade war Trump promised throughout his campaign – this trend doesn’t vote well for gold and silver in the short run.
This week, Chair of the FOMC Yellen will testify and given the recent developments, the markets will try to figure if Yellen has changed her mind on raising rates coming December. On the one hand, there is more uncertainty in the markets, stronger dollar and higher LT interest rates – basically Trump did Yellen a favor by pushing up yields, something she and the Fed have been aiming to achieve; on the other hand, the economic data won’t show any changes from last month to suggest holding off raising rates and if anything the rise in inflation expectations – they rose from 1.8% to over 2.05% within a matter of days – could only pressure the Fed to raise rates at a faster pace than previously expected moving forward. And the markets are pricing in a high chance of rate hike in December: The implied probability of a hike next month is 81%, which is 15 percentage points higher than in the previous week.
Gold and silver are likely to keep following the direction of LT interest rates and the USD and for now it seems that they are expected to further rise, resulting in downward pressure on bullion. The only silver lining for precious metals this week is if Chair Yellen comes out with a more dovish tone in her upcoming testimony, which could cut the chances of a hike in December and ease down the recent rally of LT interest rates.
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