This week, traders were taken aback by a hawkish rate cut from the Federal Reserve. While the decision itself was anticipated, the Fed’s forecast for future rate cuts was more cautious than many had expected. Consequently, the market reacted sharply, with the US dollar skyrocketing, resulting in significant selling pressure across various assets. This scenario represents yet another test of gold’s resilience amidst its remarkable upward trend.
From early October 2023 to late October 2024, gold surged an impressive 53.1%, marking a rare 40%+ upward movement! During this phase, gold achieved 43 new nominal record closes, defying the absence of its typical driving factors. American investors, captivated by the AI stock boom, largely overlooked the momentum in gold, as reflected in the holdings of major gold ETFs.
During this 12.9-month period, the combined holdings of the prominent GLD and iShares Gold ETFs surprisingly declined by 0.4%! While global demand, driven notably by Chinese investors, central banks, and Indian jewelry buyers, propelled gold prices upward, American investors appeared indifferent. Despite gold’s recent pullback following the elections, its impressive upward trajectory remains unscathed, as it has yet to experience a significant correction of 10% or more.
Gold’s most recent pullback around Election Day registered a total loss of 8.0% by mid-November, bringing its price to $2,562. The sell-off in gold futures was exacerbated by a rise in the dollar, with traders speculating the Fed would slow its rate-cutting process in light of Trump’s electoral win. This scenario mirrors what transpired mid-week after the latest FOMC decision, leading to puzzling market reactions.
In mid-September, preceding the elections, the FOMC not only initiated its first rate cut in over four years but also made it a substantial 50-basis-point adjustment. Fed officials convene eight times a year to make monetary policy decisions, each accompanied by economic projections, with the dot plot being the most critical aspect that forecasts individual Fed officials’ expectations for the federal funds rate in the coming years.
Three months back, they projected 100 basis points of total cuts in 2024, including the initial cut, followed by another 100 basis points in 2025. At that time, the USDX was relatively low at 101.0, just above a recent 13.3-month low. Despite the Fed’s apparent political maneuvering through an aggressive cut to bolster stock markets, Trump’s likelihood of winning began to rise.
Over the next five weeks, the USDX climbed by 3.4%, coinciding with an increase in Trump’s winning odds. This trade assumption was based on the belief that the Fed would indeed reduce its rate-cut trajectory if Trump were victorious. With approximately 90% of Fed economists being registered Democrats and a historical trend of the FOMC being more lenient under Democratic presidents, there have been longstanding challenges from Republican lawmakers regarding Fed policy.
Fed officials assert that their decisions are free from political influence, attributing inflationary pressures to Trump’s policies, including extensive tariffs and extended tax cuts, which may increase consumer spending and consequently, inflation. Regardless of whether the anticipated monetary policies differ significantly under Trump as opposed to Harris, traders universally predicted a tighter Fed stance.
As expected, the US dollar’s bear rally accelerated post-Trump’s victory, with the USDX surging an additional 3.9% to 107.5 in subsequent weeks. This represented a total gain of 7.1% since late September, a substantial movement for the world’s reserve currency within such a short timeframe. The FOMC proceeded with another 25-basis-point cut two days post-election, occurring during an off-cycle meeting that did not include forecasts for the federal funds rate.
Traders actively engage in speculation and hedge on anticipated federal funds rate movements through futures contracts, which reflect what the market expects from the Fed. From the initial significant rate cut in mid-September to the current FOMC meeting, expectations for future cuts have drastically diminished. The day prior, it was anticipated that traders were already expecting a total of 50 basis points of additional cuts in 2025, down from the previously projected 100 basis points.
Thus, if Fed officials projected two or more 25-basis-point cuts in 2025, rationally, the market should not have reacted significantly since this was already factored in, especially as the USDX had sharply increased due to expectations of sustained higher yields. On Tuesday, the USDX closed at 107.0, while gold traded at $2,644, with traders expecting a hawkish stance from the FOMC.
Indeed, the FOMC delivered on these expectations, cutting the federal funds rate by another 25 basis points to 4.38%. This matched the previous forecasts of 100 basis points of cuts in 2024 laid out in September. The FOMC’s statement underwent only minor amendments, with a caveat regarding the consideration of the “extent and timing” of further cuts.
Jerome Powell, the Fed chair, was anticipated to adopt a more hawkish tone in his subsequent press conference, and he did not disappoint. I watched it live and noted his opening declaration of caution regarding further cuts. He indicated that with the recent actions the policy rate had been reduced by a full percentage point from its peak, and the Fed’s stance was considerably less restrictive now.
He emphasized the need for caution in adjusting the policy rate moving forward, warning that reducing restraint too quickly could impede progress on inflation. Importantly, the press conferences are initiated a half-hour after the FOMC decisions.
However, the anticipated hawkish sentiment from Powell did not ignite the market volatility; the immediate reactions stemmed from the FOMC’s decisions. Given the quarter-point cut and the FOMC statement’s slight modifications from the previous meeting, the quarterly Summary of Economic Projections’ dot plot likely fueled the market’s reaction. Released simultaneously with FOMC decisions, the dot plot provides essential projections 30 minutes before Powell’s remarks.
In mid-September, Fed officials had projected the federal funds rate to be at 3.38% at the end of 2025; this week, they raised their projection by 50 basis points to 3.88%, aligning with traders’ expectations from the day before. The forecast of 100 basis points of cuts for the upcoming year was halved to 50 basis points. During this timeframe, the USDX had experienced considerable movement upward, indicating expectations of fewer Fed rate cuts under a Trump administration, hence higher yields.
The immediate consequence was a sharp rise in the US Dollar Index following the dot plot’s release, closing up 1.0% to 108.1—the largest single-day gain since the day after the elections when Trump’s victory became evident. How traders were surprised by the Fed executing what had been expected and previously priced in remains unclear.
After years of in-depth analysis of every FOMC decision, I find it perplexing what traders were thinking this week. Top Fed officials adjusted their PCE inflation forecasts for 2025, increasing them by 0.4% on a headline basis and 0.3% for core inflation, both to 2.5%. Perhaps currency traders speculated that a higher inflation forecast implied fewer than two total cuts next year across the eight FOMC meetings. They might have also been concerned about the “longer run” federal funds rate edging up by 0.1% to 3.0%.
Ironically, seasoned speculators trading heavily leveraged currency futures should recognize that the dot plot has historically been unreliable in accurately predicting future movements of the federal funds rate. Fed chairs routinely caution about this during their post-FOMC meeting press conferences. Instances abound where Fed officials have modified their outlook based on recent trends in job and inflation data.
The soaring dollar after this FOMC decision instigated considerable selling in gold futures. The leverage in gold futures is substantial, and traders in this high-risk market look primarily to the dollar’s performance for trading decisions. They quickly dispose of gold futures when the dollar sharply rises, leading to notable declines in gold prices. The recent drop in gold prices follows a trend seen after past hawkish surprises from the Fed.
This week, a single 100-ounce gold futures contract, controlling $264,410 worth of gold ahead of the FOMC meeting, required traders to maintain only $11,500 in cash margins. This translates to an extreme leverage of 23.0x! At such levels, a mere 4.3% movement against speculator positions could eliminate their entire capital risked. With 23x leverage, every dollar in gold futures has an equivalent impact of 23x on the gold price.
Thus, the rapid ascent of the USDX after the FOMC decision prompted significant selling in gold futures, resulting in a 1.9% decline in gold prices, closing at approximately $2,593. Bearish sentiment intensified, as evidenced by declines in related sentiment gauges like silver and the GDX gold-stock ETF, which fell by 3.3% and 4.6% respectively. Notably, GDX reached a new post-election low! Despite this, I perceive gold’s 1.9% drop following the hawkish FOMC surprise as a sign of resilience.
The day after the elections, gold dropped by 3.0% as the USDX surged by 1.6%, followed by an additional decline of 2.3% the following Monday. Shortly thereafter, gold experienced another steep drop of 3.0%. Consequently, a 1.9% decline does not seem significant in this recent context. Even though the hawkish Fed surprise presents a challenge to gold’s upward trend, its position is far from precarious, especially when viewed on longer-term charts.
As traders, we are naturally emotional. The overwhelming feelings of greed and fear can distort our perceptions regarding pronounced daily price movements, which we tend to overemphasize. The antidote to these dangerous emotions, which lead to buying high and selling low, is perspective. A 1.9% drop in gold may feel substantial in the moment, but it is marginal when viewed in a broader context.
This chart illustrates gold prices alongside the positioning of speculators in gold futures over the last few years. Gold, represented in blue on the right axis, is compared to total speculative long and short positions shown in green and red on the left. Gold has shown remarkable resilience since the elections, maintaining its upward trend and demonstrating the integrity of its bullish momentum. Thus far, gold has successfully navigated this latest hawkish challenge from the Fed.
Despite a 1.9% decline to $2,593 on Wednesday, gold remains significantly above its pullback low of $2,562 from mid-November. That selloff totaled 8.0%, indicating that upward trends do not conclude until selloffs surpass 10%, which signals a formal correction. Even if momentum selling in gold futures following the Fed pushes prices to a new low, gold’s impressive ascent remains intact as long as it stays above $2,507.
This amount represents a 3.3% decrease from mid-week post-FOMC levels, a considerable margin given that expectations of fewer Fed rate cuts next year have already been factored into prices for months now. As long as gold is merely experiencing a pullback and consolidating at high levels, traders should maintain a bullish outlook. This week’s 1.9% decline is likely to enhance the near-term bullish sentiment, primarily because substantial selling in gold futures fueled this movement.
Back in late September, total speculative longs surged to 441.0k contracts—a 4.6-year peak and the fifth-highest on record! I had previously expressed caution over the risk of a selloff, which drew criticism. However, since then, there have been significant liquidations of gold futures longs, leading to gold’s pullback. By late November, total speculative longs dropped to 350.0k contracts, a mere 52% into the current bullish trading range.
Gold-futures positioning data is only released weekly, reflecting positions as of Tuesday closes, typically reported in late Friday afternoons. When this commentary was drafted, the most recent data was from December 10th. At that time, total spec longs stood at 370.8k contracts, or 63% into that same trading range. Given the likely frantic selling in gold futures following Wednesday’s hawkish Fed surprise, these figures are expected to be lower now.
Typically, significant drops in gold prices of 2% to 3% necessitate the liquidation of 20k+ contracts of speculative longs. Therefore, total spec longs may have reached a new post-election low following Wednesday’s market reaction. The lower these positions decline, the more bullish the outlook for gold since it allows speculators room and capital to re-enter the market. Recent months of excessive long positions have indeed moderated noticeably.
Furthermore, gold reached extremely overbought conditions in late October before this healthy pullback began a week before the elections. At that time, gold was trading at 1.183 times its 200-day moving average, a precarious level of overvaluation that had been previously highlighted. The recent post-Fed price plunge has brought this measure down to just 1.054 times, indicating it is not overvalued at present.
For the current quarter, even with the latest 1.9% drop in gold, it still averages an impressive record $2,667 per ounce! This eclipses the prior record of $2,477 from Q3’24 and indicates an enormous 35% year-over-year increase compared to Q4’23. Regardless of the hawkish Fed surprise, gold is consolidating at remarkable heights within this record price territory. A year ago, gold was trading at $2,020 and had not yet surpassed $2,071.
Thus, despite the significant reactions in gold markets during the FOMC announcement, gold is performing incredibly well, if not exceptionally! Historically, gold has faced short-term sell-offs immediately after several FOMC decisions that triggered a stronger dollar. This recent USDX bear rally was already extended and overbought before the Fed’s announcement and appears even more so now. A correction seems overdue, which could trigger renewed buying in gold futures.
The outlook and fundamentals for gold remain exceptionally bullish, as outlined in a prior analysis. Additionally, the fundamentally stronger smaller gold mining stocks present excellent value today, as detailed in last week’s commentary. Over the past six reported quarters, the GDXJ’s top 25 mid-tier and junior miners have seen their profits soar year-over-year by 34%, 106%, 126%, 63%, 66%, and 71%!
These companies are almost certainly on track to double their performance from Q3’24 levels in the currently ongoing Q4. Therefore, there is no need for concern if you own gold stocks or plan to increase your holdings before they inevitably rebound to reflect the upward shift in gold prices. The undervalued gold stocks must outperform gold significantly over an extended period to adjust to reasonable valuations based on their impressive underlying profit growth.
In conclusion, gold is successfully navigating this latest hawkish surprise from the Fed. Astonishingly, the US dollar surged in response to the Fed meeting, despite it aligning perfectly with market expectations. This instigated significant selling in gold futures, thereby driving gold prices lower. Nevertheless, this decline was not extreme by recent standards; gold remained well above mid-November’s low, and its remarkable upward trend continues.
Generally, upward trends do not cease without a substantial sell-off; gold has not yet approached such a threshold. This recent healthy pullback has been beneficial, helping to normalize speculative positioning in gold futures and alleviate overbought conditions. This sets gold up nicely for a resurgence as the overextended US dollar is likely to reverse direction. Gold stocks also have promising potential for substantial recoveries in the near future.
