The Fed finally raised its cash rate by 0.25 basis points to a range of 0.25-0.5%. The reaction in was quite subdue and perhaps even a bit underwhelming as market were prepared for this decision. The U.S. dollar still rallied during the week against major currencies including Euro and British Pound but only moderately rose against the Yen and Aussie dollar. Gold and silver actually bounced back on Wednesday after the Fed’s hawkish decision only to fall back down the next day. By the end of the week, the price of gold declined while silver rose. This week will be a much lighter one in the news department with the markets preparing for the Holiday season and continue to digest the Fed’s rate decision. Some U.S. news and events to consider include: GDP for Q3, core durable goods, core PCE, and new home sales.
The Fed decided, as expected, to raise its cash rate. Although the decision was advertised well in advance, it was still highly talked as indicated by the following Google trend chart:
And now people could focus on where the Fed’s cash rate is heading in 2016. But before we get ahead of ourselves let’s look how the market reacted to this recent hawkish news. Source: Bloomberg, FOMC As you can see above, the market’s reaction this time was similar to the one it had back in October — when the FOMC left the door open to a December hike — with PM prices rising on the day of the release only to fall the next day. What’s up ahead for the Fed’s rate? After all, a higher Fed’s cash rate should push up LT rates, which should, in turn drive down PM prices. Based on the FOMC’s dot plot, the members still predict, as they did back in September, that the cash rate will reach 1.4% by the end of next year. This means four hikes of 0.25bp – nearly twice as many hikes as the market currently expects, based on the Fed-watch implied probability. Moreover, the market estimates the next hike may be in March as the odds of a 0.25bp hike is set at 52%; and 73% in June 2016. But I think the dot plot outlook should be taken with more than a pinch of salt. Source: FOMC Just consider what the FOMC estimated the cash rate will be by the end of 2015 – 1.125% or three times higher than what the current cash rate is actually at. For 2016 it was expected to reach 2.5% — nearly double the current estimates. Therefore, the dot plot seems to be overshooting and shouldn’t surprise people if the actual rate at the end of 2016 were to reach a much lower rate than 1.4%. And as long as interest rates remain low, or at very least don’t pick up too fast, the decline of gold and silver will mostly be moderate. It’s also worth noticing that this month, even though short interest rates rose this month so far – albeit not by much – long term interest rates, for 10/20/30 year have slightly declined. And lower long term interest rates could behoove bullion prices. This may partly explain why gold and silver are nearly flat for December, despite the hawkish Fed’s statement. Even the rally of the U.S. dollar during the month didn’t seem to drag down gold and silver prices. This week is likely to experience low volume of trading on account of the holidays; this tends, on occasion, to result in high volatility over short periods of times. But for the most part it’s likely to be smooth sailing with the market reflecting on the recent FOMC decision. The two major U.S. reports to consider include: GDP for Q3 and core PCE. If these report beat market estimates, this could further pull up the U.S. dollar, which may drag down gold and silver. By the end of previous week, gold holding of the gold ETF SPDR Gold Trust (GLD) bounced back for the first time in eight weeks by 2.25%, week on week, to 648.9 tons of gold. This could be another indication for the rise in demand for gold as investment in the past week following the Fed’s decision. Conversely, silver holdings for the silver ETF iShares Silver Trust (SLV) decreased by 0.4% to 322.08 million ounces.
So what’s happening? Let’s not forget that bullion prices declined during November and by close to 10% year-to-date. This could be a matter of rising global economic uncertainty that overshadows the modest and highly anticipated rate hike by the Fed. In any way, the weakness of precious metals is likely to continue as the Fed keeps turning hawkish and the U.S. dollar rises. But we are likely to see a very slow descent — as we saw back earlier this year — rather than a sharp fall as we did back in November.
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