Gold extends its losing streak for another week as markets gear up for the Federal Reserve's rate decision. Some analysts suggest that gold holding above the $4,300 level signals a diminishing drag from rate hikes on the precious metal.
Last Friday's hotter-than-expected August US CPI reading has become a key factor for markets assessing whether the Fed will raise rates this week. Some economists even describe the data as the "final nail in the coffin" supporting a rate increase. Chris Zaccarelli, Chief Investment Officer at Northlight Asset Management, commented to Kitco News that while this week's rate decision is not entirely certain, the central bank is struggling to justify holding rates steady. The CME FedWatch tool currently shows markets pricing in nearly a 90% probability of a hike this week.
Fiscal constraints are limiting the scope for rate hikes
The deteriorating US fiscal position has emerged as another key focus for the gold market. Analysts point out that rising government debt has started to impact the US bond market, with Treasury yields at three-year highs and approaching the 5% mark. The Treasury's purchase of over $50 billion in long-dated bonds last Thursday failed to push long-end yields lower. The 10-year Treasury yield closed at 4.97% last week, a three-year high, and many analysts believe a break above 5% is only a matter of time.
This disappointing bond buyback comes as US sovereign debt surpasses $40 trillion. The government now spends over $1 trillion annually on debt interest payments alone. Jeff Sarti, CEO of Morton Wealth, told Kitco News that the current fiscal environment leaves the Fed with little room for aggressive rate hikes. "The Fed can push back, but given our fiscal situation, their ability to raise rates is limited, so inflation is likely to stay elevated," Sarti said. He believes "the more important factor is our deteriorating fiscal condition, and the bond market is sending a loud and clear signal."
Just one day before the Treasury launched this round of buybacks, former President Trump pledged that if Republicans won the midterm elections and retained control of the Senate, every American adult would receive $5,000. That promise would add more than $1 trillion to US debt. Therefore, the question facing markets is not just the next rate hike, but how much higher rates can realistically go given the expanding fiscal spending.
Gold's support comes from debt and capital flows
Naeem Aslam, Chief Investment Officer at Zaye Capital Markets, believes gold continues to find strong support as the Fed's credibility faces tests. Last month, at the annual Jackson Hole symposium, Fed Chair Kevin Warsh reiterated his focus on maintaining price stability and pushing inflation back toward target. Aslam noted: "Basically, if the Fed raises rates, Treasury yields will still be unsatisfying; if they don't, their credibility gets questioned." In his view, "so being long gold is the name of the game right now."
Ryan McKay, Head of Commodities Strategy at TD Securities, said in a report last Friday that short-term downside risks for gold are increasing ahead of this week's Fed decision, but the correction space remains limited. McKay believes strong economic data and a hawkish Fed could trigger relatively modest short-term selling through systematic funds, but renewed dollar weakness themes, high central bank gold purchases, and renewed ETF accumulation will provide strong support for long-term discretionary flows. "Any near-term softness in the yellow metal should increasingly be viewed as a potential buying opportunity," McKay said.
Ryan McIntyre, President of Sprott Inc., is uncertain whether the Fed will actually hike this week. He thinks the Fed might stay neutral, as much of the inflation stems from energy prices driven higher by the ongoing Iran conflict. Even if the Fed ultimately raises rates, McIntyre believes the gold market has already priced in this outcome. With gold below $4,400, a 25-basis-point hike is largely priced in. "Whatever they do, more or less, will be relatively insignificant in the bigger picture," McIntyre said. "They either accelerate things or slow them down slightly, but the end result is the same: sovereign debt risk will continue to rise."
Central bank decisions from Japan, the US, and the UK take center stage
Following the Fed's meeting, the Bank of England will announce its rate decision on Thursday. Markets expect the central bank to hold rates steady at 3.75%. Before the weekend, the Bank of Japan will also release its monetary policy decision, with markets anticipating a 25-basis-point hike.
Adam Turnquist, Chief Technical Strategist at LPL Financial, noted in a recent report that rising Japanese rates could have broader global economic implications. Turnquist also reminded investors to watch for dollar weakness against the yen and whether the pair breaks below 152. "A decisive break below this support level could accelerate yen strength, force more short covering, and reignite yen carry trade unwinding risks, which could have ripple effects across global assets, including US Treasuries," he said.
With US government debt surpassing $40 trillion and annual interest expenses exceeding $1 trillion, the market's focus extends beyond the Fed's next 25-basis-point move. Analysts argue that even if the Fed can fight inflation through rate hikes, it is constrained by the realities of a deteriorating fiscal position. The gold market is pricing in more than just the short-term opportunity cost of a single rate hike. Rather than obsessing over the next 25 basis points, investors may need to focus on the next trillion dollars of US debt accumulation and the sovereign debt risk that comes with it.
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