Gold: What if the Fed doesn't deliver?

By Ole Hansen, Head of Commodity Strategy at Saxo Bank

20 March 2019 - Dubai, UAE

Gold is trading back above $1,300/oz ahead of tomorrow’s FOMC meeting, while a weaker dollar and lower bond yields have offset the continued headwinds from rising stocks.
From a fundamental perspective we maintain a positive outlook for gold given expectations for a weaker dollar, stable to lower bond yields and concerns about global stocks’ ability to forge higher amid current growth concerns.

However, keep in mind that many investors buy gold in order to own an insurance policy against adverse movements across other investments such as stocks. And as long stocks continue to climb gold is likely to struggle finding the strong bid which drove it higher up until February 20 when it peaked just below $1,350/oz. 

The markets have now turned their attention to tomorrow’s Federal Open Markets Committee meeting. The expectations for what Powell and company decide to do have become an almost foregone conclusion -- a development which could leave the market exposed should they fail to deliver on the three points highlighted here:

• Hold interest rates steady
• Announce plans for the end of the asset roll-off from its balance sheet
• Lower projections for the number of interest-rate hikes this year.

Anything but a lowering of the projections for the number of future rate hikes from the current two will be taken as negative. Not least considering the current market expectations – using Fed funds futures – which has seen the probability of a rate cut before year-end rise to 26%. However, the reduced stress across global financial markets following weeks of surging stocks have potentially reduced the FOMC’s willingness to play ball with market expectations. 

The technical outlook for gold looks challenging with the emerging bear flag which, if broken to the downside, could signal a move lower to key support just below $1,280/oz and potentially as low as the 200-day moving average below $1,250/oz. 

With tomorrow’s meeting being the main event risk on the short-term radar the use of soon-to-expire options can be useful for those holding long positions to mitigate the potential downside risk, or for those looking to get short should the abovementioned break occur.   

Options on the April futures contract on COMEX Gold expire in seven days on March 26. Below we have highlighted the put options with the 1,300 Put as an example being offered at $4.2/oz per lot (100 ounces), i.e. a cost per lot of $420.