Gold Price Analysis: XAU/USD erases post-soft US CPI data rally to trade back around $1840

Spot gold prices (XAU/USD) saw a pick-up in volatility in wake of a softer than anticipated US Consumer Price Inflation reading; in the immediate aftermath of the data, XAU/USD rallied from around $1840 to hit highs around $1855, which happened also to coincide with resistance in the form of the 200DMA. In the subsequent hours, these gains were eroded and spot gold is now trading around the $1840 mark again, with modest gains on the day of around 0.2%, mostly as a result of the slightly softer US dollar and slight drop in real yields (US 10-year TIPS yields are down just over 1bps on the day in the mid -1.05s%).

Driving the day

Gold saw a typical reaction to softer than expected US data, rallying to reflect the fact impact the data would have on Fed policy, which in this case is to strengthen the argument behind the Fed keeping its ultra-accommodative monetary policy stance on hold for the foreseeable future. Really though, and perhaps this explains why gold markets pared back on its initial bullish reaction, Wednesday’s US inflation data does not shift the dial at all for Fed policy;

The debate that is currently raging amongst economists in the US is over whether or not all the monetary stimulus currently being provided by the Fed, and the further fiscal stimulus likely to be provided by the now Democrat-controlled Congress will cause the US economy to overheat later in 2021 or in 2022. Thus, data from January 2021, a period when the US economy was still suffering in the grips of the worst wave yet of Covid-19 infections (which naturally weighed on economic activity and consumer prices), is hardly relevant to the “is the US economy going to overheat?” debate.

Inflation data over the coming months is expected to show a marked increase in the YoY rate of price growth, a reflection of price weakness at the end of Q1 and during Q2 in 2020 (due to the extraordinary economic impact of the first Covid-19 lockdown). The Fed has already indicated that it is not going to worry about this “transitory” increase in inflation. More important to the “is the US economy going to overheat?” debate is what happens to the MoM rate of Consumer Price Inflation; if this shows signs of suddenly picking up, this will be a much better indicator that the economy is starting to overheat.

In terms of what this all means for gold, higher inflation on the face of it might seem like a precious metal positive, given their status as hedges against inflation. However, if the US economy does proceed to overheat (perhaps the YoY rate of CPI rises to as much as 3% for a sustained period of time), watch out for the reaction from the Fed. If they act to tighten monetary policy earlier than markets are currently pricing in, this will put upwards pressure on real yields and is likely to hurt gold and other precious metals badly.

Speaking of the Fed, Chairman Jerome Powell will be speaking at the Economic Club of New York at 19:00GMT and is likely to reiterate the Fed’s current monetary policy stance regarding the ongoing need for accommodative Fed policy for the foreseeable future or at least until the US has made significant progress towards the Fed’s policy mandate. That means Powell will reiterate that he wants to see inflation rising above the Fed’s 2% target on a sustained basis, a definition the expected temporary rise in the YoY rate of inflation in the coming months is not anticipated to meet (in other words, Powell is likely to say the Fed will look through any transitory increased in inflation).

Spot gold key levels