Gold price slides as Fed rate hike draws nearer

Fed chair Janet Yellen

On Wednesday gold for delivery in June – the most active futures contract – retreated nearly $10 from Tuesday’s closing price, but managed to stay above the psychologically important $1,200 an ounce level.

Gold fell back to $1,204 an ounce in New York trading from a three-week intra-day high set yesterday after the release of minutes from the US Federal Reserve’s interest rate setting committee meeting showed some commitment to an interest rate hike in the second half of the year.

US central bank officials expect the world’s largest economy will grow at a “moderate pace” despite the weaker than expected first quarter GDP number which came in at a mere 0.2% due to “transitory factors”.

With low inflation and “labor market indicators continuing to move toward levels the committee judges consistent with its dual mandate,” the Fed remains on track to raise interest rates for the first time since 2006.

The gold price and interest rates have a strong negative correlation. As the metal produces no income, the opportunity costs of holding gold rises in a high-yield environment. Higher interest rates also boost the value of the dollar which usually moves in the opposite direction of the metal.

Despite Wednesday’s move in the gold price consistent with this pattern, a new report by Thomson Reuters GFMS argues that a “contrarian consensus” is developing in the gold market.

Rhona O‘Connell, head of the research firm, said that “the next move in the gold price is likely to be the result of a complex interplay between competing asset classes”:

“In the short term the price remains under some pressure, but any approach towards $1,100 will be constrained by a growing demand side response. Further out, clarification of the timing of the first rate hike in the United States will remove a degree of uncertainty from the markets and is likely to trigger the start of a secular, but gentle, bull run in the gold price as investors implement fresh strategies, aided by improving gold market fundamentals”.

In the price outlook commentary, GFMS asserts that the market has already anticipated the new interest rate policy and that this is therefore more than priced into the market.

The GFMS annual average price forecast is at the lower end of estimates at $1,170 an ounce compared to the mean forecast from the Reuters News poll of market participants of $1,206.

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