Gold shines bright as prices skyrocket, but will the Fed douse the glittering flame?

Stakes are high at the next Federal Reserve rate meeting, but even more so for gold buyers as XAU/USD rose by 11.17% from March 8 to 20, and the price still lingers around the highs. A sharp drop at the Fed rate meeting could leave traders wishing they had banked their profits. This piece will delve into the factors driving gold prices, the implications of the Fed's upcoming decision, and potential strategies for navigating the turbulent market.

Bank panic spreads, gold prices shine

The move higher in gold prices was well motivated, as banks on both sides of the Atlantic went bust one after another. Governments stepped in, and in the USA alone, four months of quantitative tightening were reversed quickly, as the Fed Balance grew by 297 billion. This highlights the role of gold as a safe-haven asset, sought by investors during times of economic uncertainty and financial market turmoil.

Inflation concerns and the weakening dollar

In addition to bank panic, concerns over rising inflation and a weakening dollar have contributed to the surge in gold prices. As inflation erodes the purchasing power of money, investors often turn to gold as a hedge against it. Furthermore, a weaker dollar makes gold cheaper for foreign investors, thereby increasing demand for the precious metal.

The Fed's dilemma and potential outcomes

The futures markets are now predicting that the Fed will cut their key interest rate from the current range of 450-475 by anything from 25 to 50bps by the end of the year. If they proceed with these rate cuts, gold prices will remain supported.

However, the tactical challenges for gold traders are more acute. The price has risen sharply over the last few days, and for the rate meeting on March 21, 2023, the futures markets are giving it an 83.4% chance that the Fed would increase their crucial rate by 25bps. If they indeed increase interest rates, there is a good chance that we see profit taking in the gold prices. However, if they do not increase the interest rate, we could see a price jump in the gold price, yet with the price being overbought, is there any demand for gold prices at current levels？

Long-term outlook

It is clear that the Fed rate hikes are causing havoc to the economy, and it is unlikely that we will have a soft landing, i.e., the economy slowing down enough to slow inflation but not slowing too much to create a strong recession. It looks like the future will bring more rate hikes and possibly more support for the economy, so the outlook for gold prices remains bullish. However, I would prefer to buy on a price correction, like in the $1,866 to $1,925 range, to not buy at overbought levels. A drop below $1,866 will negate my bullish outlook.