Powell Says Nay and Gold Hears Yay
Despite Fed Chairman Jerome Powell’s commitment to higher interest rates, the gold price voted in favor of a dovish pivot.
While Fed officials have reiterated their hawkish message in recent weeks, investors waited patiently for Powell to speak on Nov. 30; and with the crowd often hearing what they want to hear, a largely immaterial passage was enough to incite substantial optimism. Powell said:
“It makes sense to moderate the pace of our rate increases as we approach the level of restraint that will be sufficient to bring inflation down. The time for moderating the pace of rate increases may come as soon as the December meeting.”
Thus, while I’ve noted numerous times that no one expected 75 basis point rate hikes to continue in perpetuity, the crowd has run with a false narrative that smaller rate hikes are akin to rate cuts. So, with sentiment overpowering the fundamentals, risk assets rose sharply on Nov. 30.
Please see below:
To explain, the red line above tracks the one-minute movement of the S&P 500, while the gold line above tracks the one-minute movement of the gold futures price. If you analyze the vertical gray line on the left, you can see that short squeezes reigned when Powell began speaking at 1:30 p.m. ET.
As further evidence, Goldman Sachs’ basket of the most shorted stocks rose substantially on Nov. 30, which highlighted investors’ knee-jerk reaction to Powell’s comments.
Please see below:
To explain, the blue line above tracks Goldman Sachs’ basket of the most shorted stocks, and the vertical ascent on the right side of the chart depicts the magnitude of the daily squeeze. Therefore, the price action on Nov. 30 was much less bullish than it seemed.
To that point, while the consensus wants to create the fundamentals rather than accept them, Powell behaved exactly as expected. For example, if inflation dissipates, the Fed will turn dovish. If not, the central bank will remain hawkish. It’s the worst-kept secret, and was the case throughout 2021 and 2022. Yet, the crowds’ belief that the job is nearly done is where they miss the mark. Powell added:
“Given our progress in tightening policy, the timing of that moderation is far less significant than the questions of how much further we will need to raise rates to control inflation, and the length of time it will be necessary to hold policy at a restrictive level.
“It is likely that restoring price stability will require holding policy at a restrictive level for some time. History cautions strongly against prematurely loosening policy. We will stay the course until the job is done.”
As a result, while investors chose to prioritize Powell's December remark rather than his overall point, the reality is that plenty of hard work confronts the Fed and the financial markets in the months ahead.
Please see below:
On top of that:
So, while risk assets boarded the bullish train on Nov. 30, the narrative pushing the gold price higher is built on a faulty foundation; and despite the notion that the Fed is near a pivot, the reality is that the FOMC’s peak U.S. federal funds rate (FFR) projection keeps increasing.
As such, while sentiment is powerful in the short term, the medium-term fundamentals remain highly alarming. With growth, inflation, employment and consumer spending still extremely resilient, the consensus underestimates this inflation fight. Consequently, our 2023 FFR estimate of 4.5% to 5.5% should prove too low when it’s all said and done.
Precious Metals Strategist