By Barani Krishnan
Investing.com -- As the first trading month of the year draws to a close, it’s interesting to see how different gold’s reaction has been to inflation, compared with that of oil.
In what’s shaping to be the most challenging period of U.S. economics since The Great Inflation of 1965 to 1982, the Federal Reserve is planning three to four (or maybe more, you pick the number you like) rate hikes this year with 25 basis points per round (or if we are to believe Atlanta Fed’s Raphael Bostic, it could even be 50 bp).
With today’s relatively hawkish Fed - to be sure the central bank is nowhere near the Paul Volcker period of the ‘80s when rates were numbingly-high at 20% - it’s understandable if speculators want to sell down gold, which theoretically would suffer under rising rates.
But let’s not also forget the principal reason for shifting from the ‘The Great Easy’ era of the Fed (virtually zero rates with endless money supply) is inflation running at 40-year highs (note that we are picking up from that same period of stifling price pressures that Volcker ended).
Indeed if it’s inflation that we’re fighting, shouldn’t gold be at the forefront of that fight, at least from a commodities perspective, given the yellow metal’s standing as an inflation-hedge?
“No!” scream the bears who seem intent on driving gold to the lower $1,700s, and $1,600s if possible, citing U.S. Treasury yields and the dollar that could remain red-hot in the interim as the Fed tries to tame that inflation monster.
While some of that argument may hold, gold’s endurance as a store of value over time cannot be understated.
Anyone who has tried buying real bullion bars can attest to the sheer premium attached to them and how far they are from the futures trading on New York’s Comex. If that isn’t respect for the precious metal’s value, I wonder what is.
Various counter theories abound from gold bulls too as to why they - rather than the Fed - might win in this game (some of these were from responses to my last article):
- The Fed might only hike rates twice before pausing to see their effect (interestingly, Minneapolis Fed chief Neal Kashkari suggested a spring pause in the hike cycle to determine the progress the central bank has made). Gold will likely shoot up again by May as the Fed tried to hold to its other mandate of growing the economy via jobs even if it hikes rates and tries to reduce its massive balance sheet. It won’t be a smooth pivot and gold bulls will be seeking to gain from the Fed’s missteps and any economic fallout.
- The Fed will push the U.S. into a recession by being too aggressive with tightening, just like how it was too accommodative with the so-called QE, or quantitative easing. The dollar’s tumble in a recession will inflate gold instead.
- The relationship between Treasury yields and gold is made up by Wall Street to control the prices of gold futures. These do not correlate well with the futures on Comex as one can't buy any actual gold products without a hefty premium (my own point, earlier). While the media keeps harping on gold being a "non-yield bearing asset", the true investor in gold doesn’t care about yields being at even 2%, when inflation is growing at a scorching 5-7%.
Of course, the gold/inflation story is a world apart from the oil-inflation story.
Gold is down 2% on the year while oil is up 15%. This year’s relentless climb in oil is not actually driven by inflation. It’s due to the Russian/Ukraine political theater and OPEC+’s faux labeling of an undersupplied market as “balanced” and ensuring it never reaches balance, because true balance might mean $60 oil, not $90.
But inflation-hedging works as a prop for oil bulls because essentially all commodities, being inversely correlated to the dollar, are inflation hedges. The truth though is oil is possibly the worst hedge for inflation, if there could be one. Buying gold itself doesn’t contribute to inflation. But it’s a different story with oil.
Being the commodity that literally powers and moves the planet, oil is indispensable to the earth’s mobility. It is the underlying commodity in almost every commercial activity. Higher prices of oil lead to higher prices of food, gas, clothing and nearly every essential.
It’s disingenuous to say you’re hedging against inflation by buying oil when your purchase is actually helping drive up the price of that oil. Just call it a money-making opportunity in a bull market. That’s fine. Don’t use the excuse that it’s an inflation hedge.
Gold Price & Technical Outlook
Gold futures’ most active contract on New York’s Comex, April, settled down $8.40, or 0.5%, at $1,778.80 an ounce.
In the two previous sessions before Friday, the benchmark gold futures contract fell almost $60 in total. That handed the contract a weekly loss of more than 2%, virtually wiping out the back-to-back gains of the past two weeks.
Earlier in the week, Comex’s front-month topped $1,854 - its highest since November and in a convincing break from the $1,830-$1,835 resistance.
The tumble has taken it back below that level, making it a tougher wall now for gold to climb.
Sunil Kumar Dixit, chief technical strategist at skcharting.com, said the price action over the week showed gold's next move will largely depend on the market's reaction to the $1,780 level, whether it’s a holding or breaking point.
“There may be a short-term reversal leading to a retest of the $1,797 (50% Fibonacci level), $1,811 (50 Day Exponential Moving Average) and $1,818 Daily middle Bollinger Band,” said Dixit.
“But breaking and sustaining below $1,780 will extend bearish the momentum exposing $1,768 (61.8 % Fibonacci level) and $1,735.”
He said gold’s initial bullish run above $1,850 looked like a decisive victory, but that later “turned out to be a prank scripted by the bears.”
“Fed by the Fed's hawkish announcement of March rate hike, gold’s flash crash has since taken it through multiple support levels. The end may not be over.”
Oil Market & Price Activity
There are fewer better times in oil trading that one could have picked to be a bull, than now.
Crude prices posted a sixth straight weekly win, with global benchmark Brent printing a new $90-a-barrel peak. The latest run was fueled again by the political theater of the Russia-Ukraine conflict, and the upcoming meeting of oil producers alliance OPEC+, which never fails to provide its own drama to keep crude prices on the boil.
“Bottom line is that everything that I look at tells me oil can go a lot higher,” said Scott Shelton, crude futures broker at ICAP (LON:NXGN) in Durham, North Carolina. “Refiners can reach for barrels here at this price … margins will justify it.” He added though that he thought “a smaller flat price is better suited for this story”, suggesting an overrun in prices.
Brent hit an eight-year high of $90.25 per barrel before setting up 69 cents, or 0.7%, at $90.03. For the week, it rose 2.4%, while the cumulative gain for the six weeks was 22%. For the year itself, Brent was up around 14%.
West Texas Intermediate, the benchmark for U.S. crude, settled up 21 cents, or 0.2%, at $86.82. For the week, WTI gained 2%, while the total rise for the six weeks was 23%. Since 2020 began, it has risen around 15%.
Russia-Ukraine tensions reached a new high after Moscow’s military buildup near Ukraine has expanded to include supplies of blood along with other medical materials that would allow it to treat casualties. It was another indicator yet of the Kremlin's military readiness in the conflict, three U.S. officials told Reuters.
OPEC+, meanwhile, readied for its Feb. 2 monthly meeting. Every session of the global oil alliance these days has been an opportunity for its officials to talk up oil prices. In recent weeks, the energy media has been saturated with reports that oil exporters in the alliance were unable to add to production due to capacity constraints from under-invested oil fields.
Crude Technical Outlook
Dixit of skcharting noted that crude prices have been rising consistently for six weeks in a row, putting them in the time frame of a potentially bearish reversal, triggering a short-term correction.
“Going into the week ahead, a sustained move under $87.30 on WTI will start a sideways move with bearish bias that targets $85.20. It this fails, oil could slide to $82.90 first, then $81.90 and finally $81.30,” he said.
“But a strong move above $87.30 may extend the bullish move to retest $88.80, and reach $89.90 and $92 over an extended period of time.”
Disclaimer: Barani Krishnan does not hold a position in the commodities and securities he writes about.