Dovish Fed Speak Bolsters Gold Higher

Gold (XAU) approached its record high on Tuesday, November 29, driven by a weaker dollar (Dollar Index) and falling bond yields on increased speculation that the Fed may cut interest rates in 2024. Fed policymakers appeared increasingly comfortable keeping rates unchanged in December as recent data have moved in the central bank's direction.

As a result, target rate probabilities for the December 13 Fed meeting implied traders saw a 75% chance of a 25 basis point rate cut in May 2024. 

Has the Dovish Pivot Arrived?

Despite last week's FOMC minutes showing little appetite for rate cuts in the near future, two members of the Federal Reserve, Christopher Waller and Michelle Bowman, now indicate that they could be satisfied with keeping rates unchanged. Both Fed members had previously supported a hawkish monetary policy.

Waller said that if inflation continues to decline at this pace, the Fed could start cutting rates in 2024. On the other hand,  Bowman still expected the Fed to hike further to bring inflation down, though she stopped short of calling for a December hike.

Notably, the two Fed officials had argued in May that the Fed is not "as far behind the curve" in fighting inflation. However, both agreed that the Fed could have started tightening policy sooner, supporting former Fed official Randal Quarles' remarks back then. 

More Rate Cuts on the Table

Comments of potential interest rate cuts have fueled a bullish reaction in gold prices, leaving the safe-haven metal around $30 below its record high. The expectations of looser monetary policy have sent treasury yields tumbling and the dollar to a 3-month low, both supportive factors for the commodity.

While some investors are positioning for an economic slowdown, traders now bet the Fed will cut rates by May 2024. Waller even said rate cuts could happen in 3 to 5 months if disinflation continues. In fact, more market participants are anticipating five Fed rate cuts in 2024, up from four following the CPI report in October.

In an opposing view to market participants, Deutsche Bank (DBK.DE) anticipates an initial 50 basis point rate cut in June, not May, followed by an additional 125 basis points of cuts over the rest of the year. In fact, they expect 175 basis points of rate cuts in 2024, bringing the Fed rate down to 3.5% to 3.75% by the end of the year and not to 4.25% to 4.50% expected by markets currently.

Bank of America (BAC) also expects the Fed to start cutting in June, with around 25 basis points per quarter through the end of the year. But in contrast with Deutsche, the bank thinks the US economy can accomplish a soft landing next year, with continued inflation fighting and avoidance of a severe economic downturn.

Even if the Fed does cut rates as expected, it does not guarantee a "soft landing" of the economy, and central banks must use multiple tools to achieve economic stability.

Is a Recession On the Horizon?

During an inverted yield curve, where long-term interest rates are below short-term, history has flashed warning signs of an impending recession. 

However, the signal is imperfect, and other factors must be considered. While some economic headwinds exist, the labour market remains strong with low unemployment, supporting consumer spending and economic growth. 

The latest consumer data released on Tuesday, November 28, supported the positive narrative, up at 102 up from 99.1 in October. However, around two-thirds of consumers still expect a recession within the next 12 months, as investors expect the Fed's series of interest rate rises to slow economic growth.  

In tandem with consumers, Deutsche Bank economists expect a recession in 2024, prompted by two-quarters of negative growth in the first half of the year. They forecast an unemployment rate of up to 4.6%.  (Source: Reuters)

Conclusion

The recent rise in gold prices has been driven by market speculation of interest rate cuts as early as May 2024. In fact, predictions from prominent banks point to a series of reductions leading to a Fed rate of around 3.5% to 3.75%. However, the potential of a looming recession remains a concern, as the yield curve inversion creates an undercurrent of uncertainty in the US economy. Nonetheless, it is important to remember that the future is uncertain, and only time will reveal the economy's direction.