Can Gold Continue to Shine?

Tuesday, January 24, 2023

Gold has climbed to a nine-month high after breaking out from a bottom formation last fall. The yellow metal is now up nearly 20% off the September lows, including over a 5% year-to-date gain as of Monday, January 23. The recovery in gold has primarily been fueled by a weakening dollar and fading market expectations for a further prolonged Federal Reserve (Fed) rate hike cycle due to receding inflation pressures in the U.S. Rising demand from foreign central banks, including the People’s Bank of China (PBOC), has provided an additional tailwind for gold.

Many investors are now wondering if this rally can continue—and we believe the answer is yes. LPL Research upgraded its view on precious metals, which includes gold, from negative to positive in November.

Despite near-term overbought conditions, the technical setup for gold remains bullish. As shown below, gold futures are trending higher after reversing a declining price channel last fall. Both the 20- and 50-day moving averages (dma) recently crossed above the 200-dma, adding to the evidence of the uptrend’s sustainability. The Relative Strength Index (RSI), shown in the bottom panel, remains bullish but overbought with a reading above 70. For those unfamiliar with RSI, the indicator is a momentum oscillator that ranges from 0-100. Readings above 70 are generally considered overbought, while readings below 30 are considered oversold. In a strong uptrend, such as gold’s, RSI should reach overbought levels while downside is generally limited to readings in the 40-50 range.

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Given the degree of overbought conditions, we tactically recommend buying gold on pullbacks above identified areas of support, including $1,900 (June 2021 highs), $1,875 (November 2021 highs/20-dma), and $1,817 (50-dma). In terms of upside, a close above resistance at $1,965 (November 2020 highs) should open the door for a retest of the prior highs near $2,070.

Dollar weakness should continue to support gold. The chart below shows the U.S. Dollar Index recently violated an uptrend along with a critical Fibonacci retracement level at 102.16. (Fibonacci retracement levels are used to identify areas of support and resistance). Momentum indicators also confirm the trend reversal, including a recent bearish crossover marked by the 50-dma crossing below the 200-dma. Given the dollar’s strong inverse relationship with gold, a continuation of the greenback’s downtrend supports our outlook for more upside ahead for gold.

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Gold positioning remains bullish with further scope for buying pressure. The chart below highlights gold futures in the top panel along with periods when China increased its gold reserves. The People’s Bank of China reported back-to-back monthly gold buying in November and December, snapping over a three-year hiatus from the market. The middle panel shows managed money net futures positions based on Commodity Futures Trading Commission (CFTC) data. This CFTC category is home to speculative investors, including hedge funds. As shown, speculators have now turned net long with their gold positions, a bullish sign for gold futures as aggregate long positions are now outpacing short positions. However, as highlighted in the bottom panel, total gold positions held in global ETFs have diverged from both gold prices and speculative positioning. We suspect this divergence will likely be resolved with a rebound in gold positions held within ETFs, providing another potential tailwind for gold.

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In summary, we believe the catalysts are in place for gold to continue to shine. The technical setup for the yellow metal remains bullish, and a retest of the prior highs near $2,070 appears likely. The potential culmination of the Fed’s rate hike cycle this spring should support a weaker dollar or, at minimum, limit upside in the greenback. If inflation proves stickier than anticipated, prompting the Fed to continue raising rates above market expectations, recession risk will rise and gold will likely benefit as both an inflation hedge and safe haven asset. Ongoing geopolitical tensions with Russia and China should also support gold, along with increased central bank demand.



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