Gold Price Talking Points:
- With odds fading for an aggressively dovish Federal Reserve, the rebound by US Treasury yields and the US Dollar is undercutting gold prices.
- Gold volatility, as measured by the Cboe’s ETF, GVZ (which tracks the 1-month implied volatility of gold as derived from the GLD ETF option chain) has contracted again following the June US jobs report.
- Retail trader positioningis warning that a pullback in gold prices may be due.
After starting July and Q3’19 with a bang, gold prices are set to end the week with a whimper. The June US nonfarm payrolls report easily beat expectations, undercutting the narrative that the US economy was slowing in an acute enough manner to warrant immediate dovish policy action by the Federal Reserve. Indeed, rates markets have started to back off their extremely dovish expectations, in turn increasing the odds of a pullback in gold prices.
Fed Rate Cut Expectations Shift, Hit Gold Prices
Shifting Fed rate cut odds have been the predominant driver of price action across asset classes in recent weeks; today is no different. The June US jobs report’s surprise outperformance has provoked traders to reduce their expectations of aggressive dovish action by the FOMC over the coming months. Prior to the June US jobs report, there was a 100% chance of a 25-bps interest rate cut in July and a 23% chance of a 50-bps in July; after the June US jobs report, there is still a 100% chance of 25-bps cut, but now only a 3% chance of a 50-bps cuts in July.
Gold Volatility Contracts as Fed Rate Cut Odds Drop
If volatility is a measure of uncertainty, gold volatility’s recent explosion higher could be traced back to the uncertainty created by the US-China trade war and the resulting impact on Fed interest rates. While other asset classes don’t like increased volatility (signaling greater uncertainty around cash flows, dividends, coupon payments, etc.), precious metals tend to benefit from periods of higher volatility as uncertainty increases the appeal of gold’s and silver’s safe haven appeal.
GVZ (Gold Volatility) Technical Analysis: Daily Price Chart (October 2016 to July 2019) (Chart 1)
The acute drop in expectations for a 50-bps rate cut in July have spilled over into gold volatility. Gold volatility (as measured by the Cboe’s gold volatility ETF, GVZ, which tracks the 1-month implied volatility of gold as derived from the GLD option chain) is down by -9.7% on the day; since hitting the 2019 high and its highest level since December 2016 at 17.08 on June 25, 2019, GVZ has fallen back by -16%. If recent relationships hold, then the drop in gold volatility (GVZ) has a meaningful chance of translating into weaker gold prices.
Gold Price Technical Analysis: Daily Chart (July 2018 to July 2019) (Chart 2)
In our gold price technical analysis update at the start of the week, it was noted that “traders may want to be patient here and wait to see how the charts shape up before attempting to latch onto the next bullish momentum swing higher in gold prices; more weakness if not sideways price action may be ahead.”
Following the June US jobs report, it now seems that a bearish double top may be forming. Depending upon the measurement – treating the absolute high as the top or the closing high as the top – the implication is that gold prices may be prone to a deeper pullback towards 1350 over the coming sessions. It should be noted that while gold prices continue to struggle after breaking the daily 8-EMA on a closing basis for the first time since May 30, daily MACD has issue a negative divergence (albeit in bullish territory) for the first time since May 30 as well. These are indications that the nature of the bullish rally in gold prices has changed.
Accordingly, while the long-term forecast for gold prices remains bullish as long as the inverted head and shoulders pattern neckline is intact, traders may still want to be patient here as the odds of more weakness if not sideways price action have increased.
IG Client Sentiment Index: Spot Gold Price Forecast (July 5, 2019) (Chart 3)
Spot gold: Retail trader data shows 63.9% of traders are net-long with the ratio of traders long to short at 1.77 to 1. The number of traders net-long is 6.0% higher than yesterday and 1.6% higher from last week, while the number of traders net-short is 9.0% lower than yesterday and 1.0% lower from last week.
We typically take a contrarian view to crowd sentiment, and the fact traders are net-long suggests spot gold prices may continue to fall. Traders are further net-long than yesterday and last week, and the combination of current sentiment and recent changes gives us a stronger Spot Gold-bearish contrarian trading bias.
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--- Written by Christopher Vecchio, CFA, Senior Currency Strategist
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