Gold Prices Continue to Weather The Rate Storm

The comments below are an edited and abridged synopsis of an article by GoldMoney Insights

Gold has shown a remarkable resilience to the rise in both nominal and real interest rates. For the first time since 2020, gold is reflecting higher long-term inflation expectations than TIPS (breakeven inflation). However, the markets are still too optimistic about central banks’ ability to choke off high inflation rates with aggressive monetary policy.

Gold Prces continue to Weather Rate Storm - BullionBuzz - Nick's Top Six
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The Fed will likely stall economic activity before it can choke off inflation, which will force the central bank to reverse course long before it reaches its target interest rate. Current long-term inflation expectations imply that investors are complacent as they attribute near-zero probability to such a scenario.

Once confidence in the Fed’s ability to rein in inflation erodes, real interest rate expectations will move lower again. The result will be a sharp repricing of gold.

The Fed had been buying TIPS at a faster rate than nominal treasuries, relative to their respective market size. This meant that TIPS yields were pushed down more than nominal yields when QE was strong, and implied inflation expectations were distorted to the upside. Thus gold seemed too low relative to TIPS yields while the Fed was buying assets.

Once the Fed began to taper the opposite took effect: Gold remained stable and moved higher even as real-interest rate expectations began to rise. This led to a convergence of realized gold and model predicted values. Gold reflected the markets’ long-term inflation expectations rather than the breakeven inflation rates implied from TIPS yields.

The article discusses gold continuing to defy rising real interest rates; gold reflecting the markets’ long-term inflation expectations; the TIPS market and gold; inflation expectations; central banks are in a difficult place; and the US economy and inflation.

The threat of aggressive rate hikes over the coming months coupled with the risk of a global recession may prevent a massive break out in gold for now.

However, once confidence in the Fed’s (and other central banks’) ability to rein in inflation erodes, real interest rate expectations will move sharply lower. The result will be a rapid repricing of gold.

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