Gold forecast: XAU/USD could take a larger dive after the big rise in yields

Gold prices have been falling in the last few days after last week’s post-FOMC pop faded amid rising interest rate expectations, higher oil prices and a strengthening US dollar. As before, I wasn’t convinced gold would thrive in the current macro backdrop. Elevated oil prices and rising bond yields makes it difficult to change our cautious gold forecast until something changes fundamentally. Yesterday saw the US dollar continued to press higher, supported by the slump in the bond markets as yields broke out across the curve. The greenback was also helped in part by some forecast-beating US macro data and hawkish Fed commentary. So, gold and silver both fell and today they metals are looking to extend those losses with oil prices back above $100 on Brent.

 

Gold forecast undermined by hawkish Fed, strengthening dollar and rising yields

 

There was a modest pullback in the dollar this morning, but without any fundamental justification. The greenback is likely to stay supported especially if we now see a deeper sell-off in equity markets, as that would boost its safe haven appeal.  The Fed story remains the dominant force in FX, with hawkish policymakers doing enough to keep the dollar in demand following last week’s rate hike. Economic data has also been supportive as the S&P Global US composite PMI jumped to 58.4 from 56.0 in August, reaching its highest level since July 2021. Services led the advance and hiring strengthened, but businesses also reported higher input costs – pointing to more inflation and giving the Fed more reason to raise rates again. Today, the focus will be on the summit between Donald Trump and Xi Jinping. It remains to be seen how the dollar may react to this. Gold is likely to remain under pressure in any case amid rising bets of policy tightening.

 

Gold’s opportunity cost rises as yields break out

 

One of the main reasons why gold and other low- and zero-yielding assets have come under pressure is due to the fact bond markets are slumping. We have seen the US 10-year yields soar above 5.0% and 30-year yields are testing the 2007 highs. Gold’s correlation with yields is highlighted in the chart below:

 

 

The above chart shows gold inverted prices vs. US 10y bond yields
 

Gold typically goes up when yields go down as opportunity cost of holding the zero-yielding asset decreases. And when yields rise, gold typically heads lower for the same reason

 

Yesterday saw a big breakout in US yields with the 10-year surging above 5%. Correspondingly, gold fell around 1.5%. But is the metal now about to take a much larger drop?
 

Well, judging by this chart you can't be bullish gold. BUT if investors now lose faith in the Fed and its ability to control inflation or yields, then the dollar debasement trade could resurface and that could be positive for gold, silver and bitcoin, as well as currencies of countries with better fiscal discipline.

 

Gold technical analysis:  downside pressure is building

 

From a technical perspective, not much has changed for me to turn bullish on gold forecast. As I warned about that breakout from the falling wedge pattern last week, which looked similar to price action preceding the breakout in early August, we needed to see some further confirmation. Well, we didn’t get much upside follow-through. That means the bullish traders who bought on the back of that pattern are now trapped. Some of traders will have their stops resting below recent lows near $4235. That’s precisely where I think gold is heading to next.

 

 

Gold has been effectively in a larger consolidation/bearish trend since peaked back in January. The series of lower highs and lower lows have not yet been violated to suggest the trend has turned bullish again. Thus, the bigger risk is that we could see further long side liquidation in XAUUSD, perhaps much larger than we so far have.

 

If gold continues to head lower from current levels, and goes on to eventually break below support at $4235, then that could pave the way for a continuation towards $4,100 initially, ahead of $4,000 next.

 

On the upside, key resistance is now seen around $4,300-$4325 area, followed by $4,400. As a minimum, I’d like to see gold break above the $4,400 level on a closing basis before I can drop my bearish gold forecast.