What the USDX and Real Interest Rates Tell Us About the Price of Gold

How much is too much? How high can gold rally and still be in bearish mode?

In short, there is no short reply. As the outlook for a given market does not depend solely on its price and price movement (but also on other markets and how they all influence one another), it is usually not possible (or simply not a good idea) to try to guesstimate the price itself that would change one outlook. Still, gold is trading very close to very important resistance levels, and depending on what it does soon, it might change the short-term landscape. Those resistance levels are called the Fibonacci retracement levels, and they tend to work on most - if not all – markets.

Corrections often erase between 38.2% and 61.8% of the preceding move before the original move is continued – that’s a fact.

It’s also a fact that gold is currently trading between the 50% retracement and the 61.8% retracement. The latter is slightly above $1,900.

This tells us one important thing.

Gold is doing what it’s likely to do during a correction. Consequently, there is little reason to think that the medium-term downtrend has changed.

Why would the medium-term trend be to the downside? Because there are two key fundamental gold price drivers: the USD Index, and real interest rates. Real interest rates are unquestionably rising, which is bearish for gold in the medium term. I’m going to move on to the USD Index in just a moment, but it also implies that predicting gold prices at lower levels makes sense.

In today’s (Monday’s – Jan. 9) pre-market trading, gold futures moved to their mid-2022 high and then reversed. Is the top finally in? It’s not 100% certain, but it could indeed be the case. If not, the 61.8% Fibonacci retracement is just above the current price levels.

If you think that a rally to about $1,900 is a big deal, let me provide you with some extra perspective. Let’s zoom out.

If the recent short-term upswing is just a correction (which is likely – remember real interest rates and the USDX!), then the next, bigger move is likely to take gold lower. And the next strong support is below $1,500 – at and below gold’s 2020 lows.

Let’s keep in mind that the similarity to 2008 and 2013 remains intact.

The shape of the 2020-now price moves is similar to what we saw between 2011 and 2013, and the size of the recent correction is similar to what we saw in 2008. And in both cases, gold moves substantially lower before recovering.

Right now, many market participants seem to assume that the Fed will slow down its rate hikes, but it’s not necessarily going to happen. In fact, if the Fed wants to modulate expectations, we might hear some hawkish remarks shortly. So, no, we don’t need to wait for the FOMC for the market to react to more hawkish expectations from the Fed. This could be one of the triggers that sends gold lower in the short term.

Earlier today, I wrote that I’d move back to the USD Index. Let’s take a closer look at its recent price moves.

The USDX first moved strongly up, and then it moved back down. What gives? So, is it rallying or not?

What is chaos to the fly is order to the spider.

What is pointless in the short run makes sense once you take a broader perspective.

In the above case, we see that this kind of seemingly erratic action is exactly what we saw also in early June 2021, at the start of the USD Index’s ~15-index-point rally. Gold moved higher in the immediate aftermath, but it plunged shortly thereafter, and within two months, it erased the entire preceding rally, and miners fell more than that in 2021.

There was even an analogous slight bump higher in the correlation between gold and the USDX – I marked it all with red arrows.

Overall, because real rates are rising, the USD index is likely to rise, implying that gold's medium-term trend is likely to remain downward. Based on gold’s technical picture (its proximity to the 61.8% Fibonacci retracement and today’s reversal at the mid-2021 high appear to indicate that), it seems that the corrective upswing is about to end, or it has just ended.

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Przemyslaw K. Radomski, CFA
Founder, Editor-in-chief