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Gold Price Forecast: Fed Balance Sheet Drop May Cap Bullion's Surge

Gold Price Forecast: Fed Balance Sheet Drop May Cap Bullion's Surge

Daniel Moss, Analyst

Gold Fundamental Forecast, XAU/USD, Bullion - Talking Points

  • The provision of further monetary and fiscal stimulus may buoy gold prices as climbing Covid-19 cases ravage the US economy
  • However, contraction of the Federal Reserve’s balance sheet may hamper potential upside.

Fundamental Forecast for Gold: Mixed

Gold prices may continue to move higher after breaking to fresh 9-year highs on July 8 as market participants look forward to US second-quarter corporate earnings reports, with expectations of the largest decline since the 2008 global financial crisis.

This should come as no surprise with 32 of the 50 US states imposing restrictive lockdown measures by the end of March, hobbling the world’s largest economy.

Supportive monetary and fiscal policy has provided the perfect environment for bullion, with real yields at record lows and the US Dollar substantially weakening from the unprecedented injection of liquidity.

Monthly Correlation Matrix (2019-Present)

Gold Price Forecast: Fed Balance Sheet Drop May Cap Bullion's Surge

Data Source – Bloomberg

This environment seems set to continue with several members of the Federal Reserve stressing the need for more action, in light of confirmed Covid-19 cases in the United States climbing above 3 million.

Federal Reserve Vice Chairman Richard Clarida signaled “there’s more that we could do in terms of our balance sheet” as the increase of “cases in certain large states” is being “followed closely” by the central bank.

However, a glance at the central bank’s balance sheet itself paints an entirely different picture, with a sizable contraction recorded over the last 4 weeks.

USD vs fed balance sheet, SP500

Data Source - Bloomberg

Topping at a whopping $7.17 trillion on June 9, the central bank has notably tapered its asset purchasing program recently, with holdings declining $248 million to sit at a more ‘modest’ $6.92 trillion.

Coinciding with a resurgence in the US Dollar, and consequent stalling of the S&P 500, a continuation of this trend may hamper gold prices.

The saying ‘actions speak louder than words’ seems appropriate here. If additional stimulus does appear likely, the rally has scope to continue. Otherwise, a reversal may materialize.

-- Written by Daniel Moss

Follow me on Twitter at @DanielGMoss

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DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.