Brexit Fears Fade
After sending tremors across financial markets for a week due to the rising possibility of a Brexit, polls have turned in favor of remaining in the EU. As a result, risky assets have become more favorable again, while safe-haven assets such as gold lose their luster.
On June 16th and 17th, gold traded above $1300 following a dovish Fed announcement, but has since come back down to trade around $1285. This raises the question of whether the gold rally is nearing its end.
Could the Fed turn more bullish?
Two of the main issues noted by Fed Chair Janet Yellen in June were the weak May jobs report and Brexit uncertainty. However, the chairwoman did stress that it is important not to overreact to one bad jobs report, and also highlighted the improving wage growth conditions.
If current polls turn out to be right and the UK decides to vote against Brexit on June 23rd, one cloud of uncertainty would vanish for good, which could pressure gold prices downwards as safe-haven bets unwind.
In fact, it would potentially allow the Fed to adjust its tone to a more hawkish tune. Consequently, a strengthening USD could also drag down the dollar-denominated precious metal.
Are there other uncertainties?
While Brexit is one uncertainty, China still remains a threat to the global economy and financial markets. Several major institutions, including Goldman Sachs, have raised questions regarding the sustainability of China’s corporate debt levels.
US dollar-denominated debt alone reached $192 billion in 2015 for Chinese corporations, according to PWC. In fact, there has been a vast rise in Non-Performing Loans (NPLs) over the past few years in China, as shown in the chart below.
Making matters worse, the actual size of China’s shadow lending problem remains a question mark. A build up in credit risk in this opaque market could potentially materialize into a black swan event, in which case safe-haven assets would thrive again.
Recent renewed concerns of another possible yuan devaluation could also rattle markets. Moreover, it would make it more difficult for the Fed to carry on hiking interest rates, in order to avoid an overly strong USD against its rival currencies, including the yuan. This would provide support for gold prices as well.
Technical Indicators
Below is snapshot of technical indictors for gold on a monthly basis.
While two indicators are already signalling overbought conditions, technical indicators are still in favor of gold in the longer run.
The Relative Strength Index (RSI) and Stochastic Oscillator are still at attractive levels, and not too close to ‘overbought’ levels. The overbought thresholds for the two indicators are 70 and 80 respectively. Hence, gold certainly has more room to grow.
In fact, the Average Directional Index is at 36.46, reflecting the fact that gold's upward trend holds considerable strength. A reading above 25 is usually considered a strong trend.
Therefore, while sentiment may be changing against gold, the precious metal should certainly not be ignored. Sooner or later, when worldwide loose monetary policy finally raises inflation levels successfully, gold will certainly be one of the top inflation-hedging assets to run to.
In fact, gold fell for four consecutive years since 2011, so in the bigger picture, a long-term bullish bet is deemed wiser than a long-term bearish bet at this point.