The decline in oil prices, typically a bullish signal for gold, has not spurred a rally this time—markets are digesting a new and more complex dynamic. According to trading desk reports, on May 29, Deutsche Bank's Singapore branch released a precious metals research report. Analyst Michael Hsueh pointed out that gold is facing a novel challenge distinct from past patterns: inflation drivers have become more diversified, while global monetary policy is simultaneously tightening. This combination is suppressing gold's traditional safe-haven appeal. Over the past ten days, the front-month Brent crude contract fell below $100 per barrel, yet gold did not rebound alongside the oil price drop. Instead, it continued its downward trend from the mid-May high near $4,700 per ounce. Concurrently, the ETF and futures markets saw a combined net sell-off of approximately 1.6 million troy ounces (with ETF outflows around 400,000 ounces and futures net selling around 1.2 million ounces). The analyst clarified: "Gold's new problem lies in the simultaneous emergence of more persistent inflation and monetary policy committed to controlling it."
Real Interest Rates Are the Key Variable Why hasn't gold risen despite falling oil prices? The analyst highlighted two key data points. First, the correlation of U.S. 10-year nominal and real interest rates with forward crude oil futures contracts (e.g., the December 2026 contract) is significantly higher than with near-month contracts—the coefficient of determination (R²) for forward contracts is as high as 77%, compared to just 51% for near-month contracts. This indicates the market is more focused on the possibility of "structurally higher energy prices" rather than short-term oil price volatility. Second, 10-year real yields are highly synchronized with market pricing for the Federal Reserve's December policy meeting. Rising real rates directly depress gold's financial fair value. Year-to-date, real rates have been repriced by 48 basis points. The analyst cautioned against extrapolating this trend linearly—2022 saw a massive 270-basis-point real rate repricing. However, during that period, official gold demand (i.e., central bank purchases) surged by 716 tonnes (comparing the second half of 2022 to the second half of 2021), effectively offsetting the pressure from rising rates.
Bond Market Sell-off is a Global Phenomenon This round of bond market pressure is not unique to the United States. The sustained sell-off following the 10-year U.S. Treasury yield breaking above 4.5% was severe enough to be included in the discussion agenda for the G7 finance ministers' meeting on May 18-19. According to Japanese Finance Minister Katayama, the U.S., U.K., and Japanese markets exhibited "overlapping effects," with their respective 10-year government bond yields rising by 21, 24, and 23 basis points in the same week. Japan: Markets were concerned Japan might need a supplementary budget (including energy subsidies), despite previous government denials of such necessity. Subsequently, Prime Minister Hayashi stated a supplementary budget "does not necessarily require large-scale bond issuance," and Japan Post Bank's CEO indicated continued purchases of Japanese government bonds, which somewhat eased sentiment. United Kingdom: The Labour Party's poor performance in early May local elections raised concerns that Prime Minister Starmer might face internal challenges, with a potential new leader pursuing fiscal loosening and increased debt issuance. Subsequently, the UK's higher-than-expected April fiscal deficit data further intensified selling pressure on UK Gilts. United States: Strategists argue that "a series of shocks have left real rates too low to bring inflation back to 2%." They maintain a short position on 10-year U.S. Treasuries, with an upside risk target of 4.65%, and believe a 10-year yield reaching 5% is not impossible (implying a term premium of 135 basis points). Potential Turning Point: The Stance of New Fed Chair Warsh Gold's recent struggles partly stem from the nearing end of the U.S.-Iran conflict and the gradual resumption of commercial traffic through the Strait of Hormuz. However, lingering post-war inflationary pressures could keep real rates elevated. Nonetheless, the analyst also pointed to a potential positive factor for gold: the new Federal Reserve Chair, Kevin Warsh, who will preside over his first FOMC meeting on June 17-18. In a November Wall Street Journal op-ed, Warsh explicitly stated the Fed should abandon stagflation forecasts, arguing that AI will be a significant deflationary force by boosting productivity, and he supports lowering the policy rate while continuing to shrink the Fed's balance sheet. If Warsh can significantly shift the FOMC's overall stance from the "slightly hawkish" tone of mid-May, he could substantially alter market expectations for the rate path without changing the fundamental view that "rates will remain near neutral indefinitely." This could, in turn, boost ETF gold investment demand. However, this view faces clear countervailing pressures. Current market pricing shows a 58% probability of a Fed rate hike before December. St. Louis Fed President Moussalem recently warned that the Fed's policy rate remains below neutral, and the U.S. is unlikely in a phase of high productivity growth. The European Central Bank's April meeting minutes also indicated that the approach of "'looking through' inflation without any monetary policy action is becoming increasingly less appropriate."
Demand Side: ETF Demand Plummets, Central Bank Buying Exceeds Expectations From a fundamental supply-demand perspective, this year's gold demand landscape shows a clear divergence. The bright spot: First-quarter global central bank gold purchases exceeded expectations, and bar and coin demand grew 38% year-over-year. The drag: ETF demand contracted sharply by 78% year-over-year—Q1 ETF demand was only 62 tonnes, while Deutsche Bank's full-year assumption is around 450 tonnes, implying a significant acceleration is needed over the next three quarters to meet the annual target. However, weak ETF demand does not necessarily mean lower gold prices. Overall demand was also soft in 2023, yet the gold price still posted a modest gain for the year.
Supply Side: Recycled Gold is the Biggest Variable On the supply side, recycled gold is the most important swing factor this year, as it responds more quickly to price changes than mined gold. First-quarter recycled gold supply was 366 tonnes, against Deutsche Bank's full-year assumption of 1,470 tonnes. The World Gold Council notes that as refining and recycling capacity bottlenecks gradually ease, recycling volumes could accelerate in the second half. Currency depreciation in some markets might also prompt more "forced selling." This suggests upside risk to recycled gold supply, posing a potential headwind for gold prices.
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