Gold’s reaction to the most-dovish Fed decision in years proved
lackluster. Plenty of traders thought gold would surge after an
outsized rate cut birthing a new cutting cycle. And with top Fed
officials projecting many more cuts, it is going to be big. Gold
did rally initially on that revelation, but quickly reversed into a
larger intraday loss. Fed rate cuts are bullish for gold, but
speculators’ gold-futures positioning is overextended.
On
the eve of this latest Federal Open Market Committee decision, gold
closed at $2,568 just off the prior day’s latest
nominal record
high of $2,582. Heading into Wednesday’s 2:00pm Fed decision,
gold drifted along near those same $2,570 levels. When the FOMC
statement announced a 50-basis-point rate cut, gold shot up
to $2,600 for the first time ever. But over the next 90ish minutes,
gold plunged back to $2,548.
That
made for a serious 2.0% intraday drop post-Fed, leaving gold
down 0.5% to $2,555 by the close! That reaction looked stunning and
anomalous to many traders given the super-dovishness spewed by the
FOMC. Its first rate cut in 4.5 years was a crisis-level 50bp
instead of the usual 25bp. Just hours earlier, a Bloomberg survey
of 113 Wall Street economists saw only 9 predict the Fed would
actually go 50bp!
That
wasn’t just unexpectedly-large, but unjustified given this
backdrop. Stock markets, house prices, and costs of living are
near record highs. Inflation certainly hasn’t been vanquished,
with average annual CPI increases over the past year still hot at
3.2% compared to the FOMC’s +2.0% target. In the mid-1970s the Fed
prematurely cut before fully beating inflation, unleashing resurgent
even-larger
inflation!
And
that surprise emergency-grade 50bp cut wasn’t even the most-dovish
thing the FOMC did this week. With every-other meeting, top Fed
officials’ projections for the federal-funds-rate trajectory are
published. The previous dot plot from mid-June had forecast one
25bp rate cut in 2024 followed by another four next year, 125bp
total by year-end 2025. Not much has changed in the economy in the
few months since then.
Top
Fed officials’ real-GDP-growth projections this year merely slipped
from +2.1% in June to +2.0% this week. Their core-PCE-inflation
forecast for 2024 only moderated from +2.8% to +2.6% over this past
quarter, still well above target. Yet these guys still dramatically
slashed their collective federal-funds-rate projections in the dot
plot. On top of this 50bp cut, they forecast 50bp of more cuts this
year for 100bp total.
Then
after those they expect another 100bp of cuts next year, or 200bp
total by the end of 2025 including this week’s cutting-cycle
opener! That would be super-dovish anytime, but is even more so
considering the record general price levels permeating the US
economy. Yet crazily heading into that FOMC meeting, traders were
expecting 230bp of cuts by year-end 2025! I sure doubted the Fed
could possibly live up to that.
I
wrote a whole essay last week about
gold’s mounting
pullback risks, focusing on big gold-futures selling that
could be sparked if the FOMC disappointed. With traders looking for
nine-plus cuts, what if those top Fed officials had only forecast
six or seven? Including this week’s, they actually predicted the
equivalent of eight 25bp cuts. This latest dot plot coming in a
bit-less-dovish than traders hoped contributed to gold’s selloff.
The
Fed chair’s post-meeting press conference played a bigger role in
reversing gold and the US dollar, which gold-futures speculators
look to for their primary trading cues. Jerome Powell warned that
“no one should look at the 50bp cut and say this is a new pace. ...
The committee is not in a rush, we will move as fast or as slow as
we think is appropriate.” The US Dollar Index surged sharply on
that, pounding gold lower.
The
day before the FOMC, I wrote an entire column in our
weekly subscription
newsletter analyzing why gold was particularly vulnerable
on this Fed decision. I warned, “I don’t know what will happen
tomorrow, but I’m much more nervous than usual for gold’s reaction.
The combination of lofty rate-cut expectations, the battered US
dollar, and very-overextended spec gold-futures positioning looks
unusually-perilous.”
“Heck, even a single comment by the Fed chair in his post-meeting
presser could be interpreted as too hawkish!” Thus gold’s “downside
risks are outsized.” Given gold’s setup heading into the FOMC
with impossibly-dovish rate-cutting expectations, its lackluster
post-Fed reaction actually proved considerably better than I
expected. Gold could’ve easily tumbled down 2%+ on close, kicking
off a sharp 4%+ pullback!
Despite gold not blasting above $2,600 on this super-dovish Fed,
this new rate-cutting cycle remains really bullish for the
yellow metal. Some of gold’s
most-powerful
bull runs in recent decades were partially fueled by the FOMC
slashing rates. Gold’s only problem this week was speculators’
excessively-bullish positioning in gold futures heading into the
Fed. That short-term extreme will mean revert and normalize.
This
chart superimposes gold over speculators’ total gold-futures long
contracts in green and shorts in red. That data is only published
weekly in the famous Commitments of Traders reports, which are
current to Tuesday closes. But those CoTs aren’t released until
late Friday afternoons, so the latest-available read when this
essay was published was as of Tuesday September 10th, not this
week’s FOMC eve.
This
chart, which I also analyzed in more depth in
last week’s essay
well before the FOMC, fully explains gold’s lackluster post-Fed
performance. In a nutshell, gold futures allow extreme leverage
running up to 24.3x! Each contract controlling 100 ounces worth
$255,000 at $2,550 gold only requires traders to keep $10,500 cash
in their accounts. A mere 4.1% adverse gold move can wipe out 100%
of traders’ capital risked!
Such
exceedingly-unforgiving leverage greatly limits the numbers of
traders willing to take such massive risks. So gold-futures specs’
collective capital is quite finite, small compared to broader
markets. Yet 24x leverage still enables these guys to punch way
above their weights in bullying around gold prices. Each dollar
deployed in gold futures at 24x actually has 24x the price impact
on gold as a dollar invested outright!
With
limited capital in gold futures, over time total spec longs and
shorts tend to form trading ranges. In recent years the secular
resistance of longs ran near 415k contracts, and secular support of
shorts near 95k. These levels being challenged warns that
speculators’ likely capital firepower for buying has nearly been
exhausted. They are effectively all-in, leaving them far
more room to aggressively sell than keep buying.
Spec
longs really outnumber shorts, averaging 3.4x higher over the past
52 CoT weeks. That makes longs proportionally more important than
shorts for near-term gold-price direction. Those were way up at
390.9k in that latest-reported CoT eight days before the FOMC
meeting. And odds are they surged much higher by FOMC eve,
probably exceeding their 415k resistance when that 50bp cut and
super-dovish dots hit!
Last
Thursday the 12th gold blasted 1.9% higher despite mildly-hotter
consumer and wholesale inflation reports. That momentum carried
into the next day where gold surged another 0.9% to $2,580. Both of
those bigger up days to new nominal records looked fueled by spec
gold-futures buying. Those rallies tend to be faster due to specs’
huge leverage, so gold surging 2.7% in two days had to be
gold-futures-driven.
Meanwhile total spec shorts a week ahead of the FOMC were down at
84.0k contracts, well under recent years’ 95k support. So no matter
what top Fed officials decided, specs’ likely gold-futures buying
firepower was pretty much tapped-out. There was little room
for adding more longs or covering more shorts regardless of how the
FOMC played out. But there was big room for selling if the Fed
wasn’t dovish enough.
Excessively-bullish speculator gold-futures positioning which means
very-high longs and very-low shorts is always short-term-bearish
for gold, regardless of newsflow. Both sides of that trade need
to mean revert and normalize after extremes, which means major
selling in this scenario. While I was worried the FOMC would
disappoint triggering that, it hasn’t happened yet despite gold’s
lackluster reaction to the Fed.
While specs didn’t buy on that emergency-grade 50bp rate cut and
super-dovish dots, they didn’t do much selling either. Although
gold’s 2.0% intraday plunge in the wake of the Fed was big, its 0.5%
closing loss on Fed Day certainly wasn’t. So the risks for gold
suffering a gold-futures-mean-reversion-fueled pullback remain high,
it could happen anytime. The most-likely catalysts are major
economic data and Fedspeak.
Interestingly top Fed officials aren’t allowed to speak publicly or
talk about monetary policy in blackout periods surrounding FOMC
meetings. They run from the second Saturday before Wednesday
decisions to the Thursday immediately after. This latest blackout
was in effect from September 7th to the 19th. Now these guys are
free to say whatever they want again until the next meeting’s
blackout starts on October 26th.
Odds
are some major US economic data will surprise sooner or later in
directions arguing for slower or fewer Fed rate cuts.
Monthly US jobs could beat big again as critical elections loom, or
either CPI or PCE inflation could print hotter than expected again.
Sufficient Fed-hawkish surprises could certainly lead some top Fed
officials to warn that their rate-cut trajectories need to
moderate. That would goose the USDX.
That
leading US-dollar benchmark was pretty oversold heading into this
week’s FOMC decision, trading just 0.1% over late August’s
13.3-month low this Monday. So there’s lots of room for a
sizable-to-big bear rally on the right catalyst, which would
probably shake loose major gold-futures selling. Normalizing
spec positioning is ultimately bullish for gold, extending its
upleg’s longevity. But it would force a short-term pullback.
As I
warned last week, that could prove considerable given specs’
excessively-high longs and super-low shorts. Technically a pullback
is a sub-10% selloff within an ongoing upleg. If gold suffers a
larger 6%-to-9% one, that could slam gold back to roughly $2,350 to
$2,425. While still very-high levels absolutely, that would feel
quite bearish after $2,582! Traders need to be ready for a sizable
gold-futures-driven pullback.
As
the timing and speed of that inevitable normalizing selloff is
unknown, traders need to put in stop-loss sell orders or tighten up
existing stops. Gold’s lackluster post-Fed performance is a
warning. Had spec gold-futures positioning been normal heading into
this week’s FOMC, gold probably would’ve surged 2%+ on Fed Day
and 5%+ during the subsequent week! Leveraged gold futures dominate
short-term gold prices.
Mid-upleg pullbacks are very welcome, bleeding off excessive greed
which extends uplegs’ longevity and ultimate size. They offer the
best buying opportunities within ongoing uplegs, in both gold
and its miners’ stocks. The latter are particularly exciting, as
gold stocks still have a long way higher to run yet to reflect these
awesome prevailing gold levels. Gold’s upleg has soared 41.9%
higher at best since early October!
Typically the major gold stocks amplify material gold moves by 2x to
3x, while fundamentally-superior smaller
mid-tiers and
juniors fare even better. The leading GDX gold-stock ETF surged
to a 28.9-month high last week as gold hit $2,580. Yet gold stocks’
upleg had merely powered up 54.7% at best, only leveraging gold by
1.3x. This 40%+ monster gold upleg is the largest since a pair of
40%+ ones crested in 2020.
Gold
averaged 41.4% gains in those, which catapulted GDX up 2.5x for
big 105.4% average uplegs! Gold stocks are overdue to head way
higher before this gold upleg gives up its ghost. Their upside
potential is far bigger than normal since both
majors and
mid-tiers are earning their
fattest profits
ever achieved by far! So if you aren’t sufficiently deployed in
great gold stocks, gold’s coming pullback is a big opportunity.
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The
bottom line is gold’s post-Fed performance has been lackluster. The
FOMC’s decision was super-dovish, birthing a major new rate-cutting
cycle with a crisis-level 50bp one while top Fed officials slashed
their rate projections. Gold should’ve blasted higher on that,
since Fed rate cuts have proven so bullish for it historically. Yet
instead the yellow metal suffered a big-and-sharp intraday selloff
after the FOMC.
The
reason was simple, speculators’ gold-futures positioning ahead of
the Fed was really overextended. Their total long contracts are
very high challenging secular resistance, while total shorts are
super-low under support. Their likely capital firepower for buying
was largely expended before the FOMC, leaving way more room to
sell. Specs’ positioning needs to normalize forcing a gold pullback
before this upleg surges again. |