To know where gold is going, track the dollar — and oil

Gold, the most actively traded precious metal, is considered one of the safest investment instruments the world over. Both traders and investors hold great interest in its price movements, the factors that drive it, and its prospects. Here, we look at some of the factors that influence the price of gold, and how they may impact bullion price movement going forward.

The movement of the US dollar is one of the critical determinants that influence the price of gold. Gold and dollar have an inverse relationship: when the US dollar weakens, gold prices go up and vice versa. There are two reasons for this behaviour. First, like other commodities, gold is priced in dollars. A weak dollar makes gold cheaper, which in turn attracts more demand for it.

Second, the US dollar depreciates severely in periods when there is an economic crisis in the US or in other parts of the globe. Such situations accentuate a heightened safe-haven demand, sending gold prices higher.

So where is the dollar headed? Broadly, the outlook for the US dollar is not very bullish. The only positive trigger for the dollar is the anticipation of interest rate hikes by the US Federal Reserve. But this has already been adequately factored in. So any future rate hikes will cause only short-term volatility. Also, other major global banks, including the European Central Bank (ECB) and the Bank of England (BoE), are gearing up to tighten their monetary policy, which is likely to keep the euro and pound stronger going forward relative to the dollar.

In the absence of any new triggers, the dollar is not expected to strengthen much. Technically, the dollar index, which is currently trading at around 93, is likely to fall to 90 or 88 in the short term. Such a fall will help gold prices move higher.

The US Federal Reserve’s interest rate hikes and plans to unwind its balance sheet have restricted the upside in the price of gold in recent months. But now, with the Fed having made public its schedule, markets have absorbed the pace of anticipated monetary tightening.

So how will the Fed’s actions influence gold, especially with Jerome Powell set to take over as Chairman from Janet Yellen in February 2018?

Powell is widely expected to continue along the policy path charted by Janet Yellen. If, contrary to expectations, he turns aggressive about hiking rates, that could boost the dollar. Gold, in turn, will get beaten down.

On the other hand, if the US economy and job market grows at a much slower pace than the Fed expects them to, causing the central bank to slow down its rate hikes, it will be negative for the US dollar. In such a scenario, gold prices could surge.

Gold prices are driven up in times of geopolitical unrest and conflicts. This is because, at such times , gold benefits from investors’ search for a safe haven. Interestingly in such times, both gold and the dollar, which are otherwise inversely related, tend to move in the same direction since both gain safe-haven status.

The ongoing geopolitical tensions between the US and North Korea have helped propel gold prices higher over the past few months. Although tensions appear to have subsided for now, any new developments on this front—perhaps a new missile test by North Korea—could be positive for gold.

Apart from these much-debated factors influencing gold prices, there are a couple of determinants that have not received quite as much attention among market players, but which could be key in moving gold prices going forward. The first is the price of oil, and the second is the recent surge in cryptocurrencies.

Crude oil prices have surged in recent times, breaking above $55 per barrel (WTI crude prices) to touch $59 per barrel. Market buzz has it that oil prices may not break out beyond $62-63. But even if it does not breach $63 immediately, it is unlikely to fall below $50 anytime soon. Also, the market is missing out on the bigger picture, which indicates that a further rally for crude prices is on the cards from a long-term perspective.

Technical analysis suggests that WTI Crude oil price is more likely to be sustained above $50 in the coming months. An eventual break above $63 will pave the way for the long-term target level of $85.

A strong rally in oil will be positive for gold. That’s because an increase in oil prices will push up inflation, and typically, demand for gold increases in times of higher inflation.

Cryptocurrencies in general, and Bitcoin in particular, have been on a hot streak, rising by several multiples over the course of this year. Bitcoin prices have sky-rocketed from around $950 per ounce in 2016 to shoot past $17,000 per ounce in early December.

Strikingly, the stunning rally in Bitcoin is charting much the same path as the rally in gold and silver in between 2009 and 2011. That suggests that if Bitcoin reverses lower in the coming months, similar to the fall witnessed in gold from 2011 to 2016, there is a strong likelihood of some of that money moving out of the cryptocurrency market into gold.

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