Gold price has been on a downward trend since the beginning of August, as the US dollar and Treasury yields have risen sharply. The yellow metal has lost more than 10% of its value in less than a month, reaching its lowest level since March 2022. What are the factors behind this slump and what are the prospects for gold in the near future?
Rising US Dollar and Treasury Yields Weigh on Gold
One of the main drivers of gold’s decline is the strength of the US dollar, which has been boosted by the expectations of a faster and more aggressive monetary policy tightening by the Federal Reserve. The Fed has signaled that it will start tapering its bond-buying program later this year and may raise interest rates as soon as 2024, in response to the rising inflation and robust economic recovery in the US.
The hawkish stance of the Fed has pushed up the yields on US Treasury bonds, which reflect the opportunity cost of holding gold. The benchmark 10-year yield has surged to 4.328%, its highest level since 2007, while the 2-year yield has climbed to 3.82%, its highest level since 2008. Higher yields make gold less attractive as an investment, as it does not offer any interest or dividends.
Another factor that has weighed on gold is the deterioration of the Chinese yuan, which has been hit by the slowdown of the Chinese economy and the default risks of some large property developers. China is one of the biggest consumers and importers of gold in the world, so a weaker yuan reduces the demand for gold from Chinese buyers.
Volatility and Geopolitical Risks Could Support Gold
Despite the bearish outlook for gold, there are some factors that could provide some support for the precious metal in the coming weeks and months. One of them is the volatility in the financial markets, which could increase due to the uncertainty about the Fed’s policy moves, the impact of the Delta variant of COVID-19 on global growth, and the potential spillover effects of China’s debt problems.
Gold is often seen as a safe-haven asset that can hedge against market turmoil and currency devaluation. If volatility spikes, investors may seek refuge in gold, especially if real yields (nominal yields minus inflation) turn negative. The GVZ index, which measures the implied volatility for gold, has risen from a low base and could go higher if market conditions worsen.
Another factor that could support gold is the geopolitical risks that are looming in different regions of the world. For instance, the chaotic withdrawal of US troops from Afghanistan has created a power vacuum that could be exploited by terrorist groups or rival powers. The tensions between Iran and Israel have also escalated recently, raising the specter of a military conflict in the Middle East. Moreover, the relations between China and Taiwan have deteriorated further, increasing the risk of a cross-strait crisis.
Gold is often regarded as a crisis hedge that can preserve wealth and value in times of war and instability. If geopolitical risks flare up, investors may flock to gold as a safe asset that can withstand political shocks.
Technical Analysis: Gold Faces Key Support and Resistance Levels
From a technical perspective, gold is trading in a descending channel that has been formed since August 2023. The lower bound of this channel coincides with a major support level at $1,765, which was the low reached in November 2020. If this level is broken, gold could extend its losses towards $1,714, which is another key support level derived from a Fibonacci retracement.
On the upside, gold faces a strong resistance level at $1,875, which was the high reached in June 2023. This level also corresponds to the upper bound of the descending channel and a Fibonacci retracement level. If gold manages to break above this level, it could target $1,925, which was another high reached in May 2023.
The following chart shows the daily price action of gold against USD (XAU/USD) along with some technical indicators.