Gold futures posted their worst performance since March last week as an uptick in U.S. Treasury yields reduced demand for the non-yielding asset. The stalemate over a U.S. stimulus bill to help the coronavirus-hit economy also dampened gold’s appeal as an investment.
Despite the size of the break last week, the selling was orderly and did not suggest investors had shifted into panic mode. This is because for all intents and purposes, investors had already accepted the possibility that gold prices had gone a little parabolic recently and may have rallied a little too far, to fast in relation to the fundamentals.
Last week, December Comex gold futures settled at $1949.80, down $78.20 or -3.86%.
When the dust from the steep decline cleared, prices consolidated as investors regrouped while reassessing the trading environment.
Longer-term, the market remains well-supported as the Fed is widely expected to hold rates near zero for several years. Over the short-run, however, the market seems poised to take a pause, primarily due to firmer U.S. Treasury yields.
It’s important to note that the term “interest rates” is thrown around a lot when in fact there is the Federal Funds rate, which remains at 0 to 0.25% and then there are Treasury yields. I think a lot of longs got caught last week watching the Fed Funds rate, while Treasury yields creeped up on them.
Benchmark U.S. Treasury yields surged to seven-week highs last week after the Treasury sold a record amount of 30-year bonds to weak demand. In this sale, the Treasury moved $26 billion in bonds, up from $22 billion at its last quarterly refunding in May. The debt sold at a high yield of 1.406%, around three basis points higher than were the debt traded before the sale.
The Treasury last week increased auction sizes across the curve and said that it plans to continue to shift more of its funding to longer-dated debt in coming quarters as it finances measures to offset the impact of the coronavirus epidemic.
Treasury yields are going to continue to dictate the direction of the gold market this week. Since the Treasury auction is over, traders are going to watch to see if yields start drifting lower again or consolidate.
If Treasury yields start to creep lower then look for gold prices to firm. Gold could trade steady to lower if rates continue to drift higher.
Over the long-run, conditions are still ripe for further price appreciation. Congress is not expected to negotiate a stimulus package until they return from their summer recess around September 7, and traders will start taking the election more seriously after Labor Day.
These two factors will influence gold prices but only to the extent that they influence Treasury yields. For example, a flight to safety rally into Treasury bonds will lower rates and drive up gold. Don’t just trade the headline. Make sure that yields move.
Don’t be surprised if gold move sideways over the next three weeks. This will be the set-up for the return of volatility after September 7.