May 28, 2016, Weekly Summary: The FED Crashed Gold’s Party

This weekend, for the most part, we will concentrate our efforts on the gold market since we had two updates during the week which covered the S&P 500.

The fact that the FED slowed down the projected pace of rate hikes, was misinterpreted by traders as a cessation of rate hikes altogether, for the remainder of 2016. In addition to this, the gold bugs reacted to the FED’s slowing pace as if it had promised a RATE CUT, and dived into the gold market with their eyes closed and their hearts excitedly pumping. This launched a price momentum that the hedge fund speculators magnified by orders of magnitude. The resulting mispricing of gold was obvious to us, but there was nothing to be done until the mini-bubble started to deflate. The FED’s warning of a rate hike sooner rather than later, has punctured the bubble and lower gold prices will be the result.

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The dollar still has room to rally since it has only recovered 40% of its range-trade. No-one should expect a straight line move to the upper limit, but with the FED rate-hike warning in place, chances are that we’ll see continued strength in the dollar and reciprocal weakness in gold.

The CME FED watch tool is pricing-in a 60% chance of AT LEAST one hike by the end of July and this should keep both the 30-year bond and gold back on their heels until then.

Notice, in the chart below, that the change in price direction of gold (pink circle) that was expected following the divergent trading between gold and the 30-year bond (green rectangles), was very short-lived, and that gold and the 30-year bond are once again trading in sync.

The futures traders’ commitments have started to unwind: the speculators are trying to get out before they start losing too much, and the commercials are starting to take some profit off the table. Since these numbers do not include the Wednesday to Friday trading, it is likely that both positions are lower than indicated. But the open interest is still high, so we expect the unwinding to take some time yet. The pressure is on the long-side, and if the hedge funds make a panicked run for the exits, it will be a quick, but costly divorce for the gold bugs. Slow or fast, we expect more downside ahead for gold.