London spot gold hits 5-month high: Will the momentum continue in near term?

Going ahead, the performance of the US dollar and the global economic outlook would be the trendsetter for gold.

London spot gold hit a five-month high of $1916 an ounce in the first week of June but corrected more than seven percent by the end of the month. Regaining US dollar and a steady performance of risky assets continue to hit the safe haven appeal of the metal. Expectations of a rate hike from the US Federal Reserve and optimistic global economic sentiment also contributed to the fall. Meanwhile, lingering worries over inflation and a slow recovery of US labour market restricted major selloffs in the metal.

The US Federal Reserve’s dovish stance on fiscal policy and concerns over inflation continued to hit the US currency. A weak dollar has provided most of the support to gold as it is considered a hedge against inflation and currency devaluation.

The Dollar index, which measured against a basket of six major currencies had a strong start this year. It rallied about 4 percent in the first quarter but reversed most of such gains by the end of May. Investors and traders who sought safety in the US dollar earlier now turned their focus on returns that weighed down the sentiment of the US greenback.

Drawing from the US dollar’s weakness, the Euro gained momentum by strengthening about 4 percent so far in the second quarter. It is now one of the best-performing currencies this year. In the meantime, the European Central Bank raised its growth and inflation projections while pledging a steady flow of stimulus in the latest policy meeting.

A sharp rise in inflation expectations and an improved economic outlook assisted other commodity-related and emerging market currencies to hold their ground against the US greenback.

However, investors and traders are now closely tracking comments from the US Federal Reserve. Rumours that US Fed will start to taper its massive bond buying program and rising inflation numbers are restricting traders from taking big bets on gold. Meanwhile, the recent US report showed a shortfall in growth in employment creation, dispelling expectations for an early monetary tightening.

The US job growth is on the weaker side, indicating that the economy is still under recovery phase. As per the May labour data, monthly job numbers increased at a slower pace just adding 5,59,000 jobs. The supply constraints, rising inflation and labour shortages continue to hit the US job market. Many workers continue to remain at home due to government subsidies which discouraged them to find a job, which also weighed on the sentiment. At the same time, US consumer prices rose significantly in May. It posted a biggest annual increase in nearly 13 years as reopening of economy boosted demand for travel-related services.

Concerns over the second and third wave of Covid-19 due to delay in vaccination in some emerging markets continue to support gold’s appeal as a safe asset. The recent sharp rise in new virus cases in India, the second largest consumer of gold, is now under control but gold’s physical market activities are reported to be lacklustre.

The performance of the US dollar and the global economic outlook would be the trendsetter for gold. Due to the Federal Reserve’s accommodative policy stance, the near-term outlook of US dollar will be lacklustre, and the threat of inflation remains on the cards.

Anyhow, since its key fundamentals remain put pressure on prices, medium term outlook of gold likely to be choppy with limited upside. Signs of increased global economic optimism, performance of US dollar and steady global equities continue to weigh down the sentiment. Meanwhile, gold’s special appeals like inflation hedge asset, offering portfolio diversification and it is considered safe during currency devaluation likely to limit major liquidation in prices.

Article first published in Moneycontrol.

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