Gold continues to struggle in the short term as the Fed slows the pace of rate hikes due to inflation

Gold prices hit a new low of $1,759.68 an ounce overnight since August 3. Gold may continue to struggle in the short term, with the minutes of the Fed's July meeting showing that the Fed will consider slowing the pace of future interest rate hikes in response to easing inflation. The Federal Reserve's hawkish expectations sparked a fresh rally in U.S. bond yields, which provided additional support for the dollar and further fueled a flight from non-yielding gold.

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The gold market is signaling that the downtrend is strengthening, conflicting with expectations that the Fed will turn as inflation cools. As long as gold prices remain below $1,890 by the end of the year, investors should not believe that the gold market will undergo a qualitative change due to the Fed's policy shift.

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After the release of the minutes of the Fed’s July meeting on interest rates, the market interprets it as dovish because it is the first time the Fed has mentioned the risk of “excessive tightening” since this year and reiterated its statement that the pace of tightening should be slowed down in the future. In response, spot gold rose slightly in the short-term and then corrected, and the US dollar index fell in the short-term and then pulled up. The market is still maintaining a delicate balance between raising interest rates by 50 basis points or 75 basis points at the Fed's September meeting.

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The minutes of the July interest rate meeting have limited impact. Next, the market mainly depends on the August inflation data and the non-farm payrolls report to be released in early September. Of course, the Jackson Hole Global Central Bank Annual Meeting from August 25 to 27 will also be will be an event to watch, when the Fed will give its views on the policy outlook.

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Bob Miller, head of Blackstone's Americas Fixed Income Department, said that the Fed's September meeting to raise interest rates by only 0.5 percentage points was seen as "dovish" by many traders. With more economic data released, the Fed has more room to react. Macro information expectations are much more nuanced, reflecting the need for the central bank to “selectively” assess the conflicting performance of different economic data and their impact. "Given the unprecedented nature of the current rate hike cycle, it seems sensible to set some conditions going forward."

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Gold ended a three-day losing streak, the market worried about a recession, and risk aversion provided important support for gold. But the dollar continued to hit new highs for the month and continued to strengthen on Fed hawkish expectations. In addition, despite signs that U.S. inflation is slowing, several Fed officials supported further interest rate hikes, in line with market expectations for a 50 basis point rate hike in September, pushing U.S. Treasury yields higher and further limiting gold’s gains.

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Gold prices may rise above $2,000 next year as inflation remains high, which will provide support for traditional metals that are usually used to hedge against price pressures, said Jake Klein, executive chairman of Australian gold miner Evolutio. Given that the Fed's latest meeting minutes hinted at a possible delay or narrowing of rate hikes, it suggests the market will have to accept that inflation will rise further over a longer period of time, but that's a good thing for gold. Gold prices are down just 4% in 2022, despite aggressive monetary tightening by central banks around the world, eroding gold’s appeal. And in about a year, if the Fed turns to easing, gold prices will start to rebound.

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"Gold is likely to remain responsive to real interest rates, driven by the pace at which global central banks are tightening monetary policy to control inflation," the World Gold Council said in a mid-year analysis. The gold market presents potential headwinds, but many hawkish policy expectations have been priced in. "At the same time, persistent inflation and geopolitical risks are likely to sustain safe-haven demand for gold. Underperforming stocks and bonds in a potential stagflationary environment could also be bullish for gold," the report added.