The Calm Before the Storm. What Will Happen To the Price of Gold?

In today’s volatile economic landscape, understanding the intricacies of the gold market is more crucial than ever. As one of the prime investment assets, gold’s price trajectory can offer insights into broader economic trends. This article delves into the recent patterns in the price fluctuations of the gold market, the influence of interest rates, potential recession risks, and the subsequent implications for investors.

The gold market has been relatively stable over the past few months. Since the peaks reached in May, gold has fallen slightly and moved sideways in the summer. However, a turning point is likely to be reached in the next year, which will push gold prices higher.

Since the end of May, gold bullion has been stable. Gold bullion prices have stayed in a fairly narrow range (between $1900 and $1980). In the short term, the main question for investors is whether gold will be able to hold at current levels and break the 2000-dollar barrier again. In a few years’ time, the price will be most affected by what happens in the economy and whether or not interest rates start to fall.

At the end of July, the Federal Reserve decided to raise the benchmark interest rate by 0.25 percentage point, to a range of 5.25–5.5 percent. This was an expected decision and did not have much impact on gold prices. The last time the US base rate was at such a high level was more than 22 years ago.

At the beginning of July, gold was heavily influenced by the lower-than-expected US inflation figure. After that, there was even more speculation that July’s rate hike was the last of the cycle. This boosted gold prices. It is also noteworthy that in the second half of July, the dollar was strengthening, but gold managed to maintain a high price level.

In July, the gold price rose by a total of 2.4 percent to 1965.6 dollars an ounce. In the first days of August, however, gold has fallen sharply and is currently trading at 1936 dollars. The price of silver rose by 8.8 percent in July to end the month at a silver price of $24.7.

The gold price remains at its high level of the last five years. Source: TradingView/Goldprice.org

Are interest rate hikes over?

The likelihood of the Federal Reserve raising interest rates in September is less than 20 percent, according to market estimates. In June, the Federal Reserve indicated that two more rate hikes were planned for this year. However, markets do not believe this and are betting that there will be no further rate hikes this year.

Higher interest rates are generally bad for gold, as they tend to boost bond yields, which in turn increases the opportunity cost of gold (the foregone return if one investment is chosen over another).

The price of gold has also now factored in the fact that the US Federal Reserve is no longer raising interest rates. This means that if there is a significant change in economic data (such as inflation or labour market data), this could cause a sharp change in interest rate expectations, which would probably also cause the gold price to move. At the moment, the view is rather bearish.

However, if interest rates were to be raised further, this could have a strong knock-on effect on gold prices. This would probably mean that gold would fall below the USD 1900 support level.

The risk of a recession is rather high

On the other hand, a recession (at least two quarters of a recession) is likely. This is suggested by the inversion of the yield curve (you can read more about it here) and, to some extent, by economic data. History has also shown that such rapid rate hikes have traditionally been followed by recessions.

This implies that central banks may already reverse monetary policy at the end of this year or in the first half of next year.

A cut in interest rates would probably imply a fall in real interest rates (inflation-adjusted rates). Real interest rates are one of the major factors that have a significant impact on the gold price. Of course, real interest rates also depend on inflation, which is likely to slow further in a recession.

At the same time, the monetary policy response to a recession is highly predictable. As has been said, interest rates will start to fall. Second, central banks could start printing money again, which would again be inflationary. In addition, there are a number of long-term factors that underpin inflation, such as global labour shortages, ageing populations, and deglobalisation.

Stagflation could be ahead

Thus, we could be facing an environment where inflation does not slow down significantly, but the economy falls or stagnates (also known as stagflation), in which real interest rates fall, which is very positive for gold.

We are close to a turning point. We will see this year or early next year what the state of the economy will be and what the central banks will do with interest rates. At the moment, it looks like interest rates will be stuck at their current levels for a while.

But if you look at history, interest rates have not stayed at this plateau for long. The longest period was from August 2006 to July 2007, when the interest rate remained at 5.25% for 11 months. Typically, when interest rates have peaked, they have started to fall less than half a year later, as the economy has deteriorated.

What can we expect from gold prices in the coming months?

So, we can expect gold to move sideways in the coming months, trading in the $1900–2000 range. However, by the end of the year or the first half of next year, I would expect to see a price of more than $2000 and potentially new records. This will probably happen when the US economy deteriorates and interest rates start to fall again.

However, it also depends to a large extent on the depth of the recession. If the downturn were to become deep, it could be accompanied by some form of liquidity crisis, meaning that financial markets would temporarily sell gold to improve liquidity. However, it is normal for the ensuing monetary meltdown to be followed by a rapid appreciation in the price of gold, as we saw in the aftermath of both the 2008 and 2020 crises.

In general, gold investors are currently on the sidelines, and so far, we can expect the sideways movement to continue. However, when the picture starts to clear, price movements could become very rapid.

The precious metals market, reflecting global economic sentiments, remains under the watchful eyes of investors. While current trends indicate a period of relative price stability, the complex interplay of interest rates, economic indicators, and historical patterns suggests potential volatility ahead. Investors and market watchers should remain vigilant, adaptable, and informed to navigate the possible twists and turns in the gold market.