Every time I get excited about Gold prices recently the metal fails to make a substantiated move higher or lower. Basically, it seems like prices want to move higher as the fundamentals are there. Specifically, the monetary stimulus from the EU, UK, China etc… along with the US’s own “Operation Twist” is raising the likelihood that inflation is going to be real in the next few years. Even were inflation to remain limited, it wouldn’t be because of any good news but as much as the continuation of a global economic slowdown. Such a low inflation environment would suggest weakness in equities and riskier currencies and would be considered bullish for Gold.
But, as much as it seems like Gold prices just want to go higher, the precious metal is currently being boxed into the overall risk trade. This was best seen on Friday as Gold spiked higher following the worse than expected US Non Farm Payrolls number, only to retreat quickly on the overall risk selloff (see chart).
Selling pressure aside, the risk versus reward picture looks positive for Gold longs at current levels. The main driver for Gold is that traders just haven’t been too excited about the post EU Summit results. Since the Summit took place 11 days ago, Spain’s 10 year bond yields have jumped back above 7.0% and the EURUSD is at two year lows. This trading action has occurred even after the ECB lowered interest rates last week and more or less was followed what was expected of it to after the Summit. What this is doing is putting pressure back on the EU Leaders and ECB to prove to the markets that they can prevent Spanish banks and Spain as a whole from needing continued mini bailouts to survive.
As such, this is raising chances that we will see either some sort of new bailout structure or monetary stimulus be enacted. Our expectation is that the ECB will need to give in and formally announce quantitative easing, targeted at Italian and Spanish bonds in the near future. While such an even wouldn’t necessarily trigger an all-out rally in Gold, it would add another reason for Euro devaluation; thus adding appeal for hard assets.
On the technical side of things, if you take a look at the chart below, you will see that Gold has been boxed in a range between 1550 and 1635 for the past several months (red lines). Also, while prices have been in a steady downtrend from their 2011 highs, they have also found continued support at the 1500 level. Therefore, while the charts aren’t giving a clear indication up or down for Gold, they do suggest that prices have been becoming range bound as traders debate the next long term direction in Gold. Such an environment often leads to extended breakouts taking place one a new direction is decided. Therefore, if today’s speech from ECB Chairman Draghi leads to new actions from the central bank or from EU leaders, it could finally be the driver to trigger a longer term trade higher in Gold.