Federal Reserve chair Jerome Powell’s prospective interest rate slashes could have positive downstream effects for gold.
A new report put out on Monday by industry analyst ING suggested price jumps could reach new all-time highs upwards of USD$2,700, spurred on by Federal Reserve rate cuts and increased geopolitical risk.
Gold has been one of the top-performing major commodities this year, surging more than 20 per cent year-to-date. This rise has been driven by expectations of an interest rate cut from the Federal Reserve, strong central bank buying, and robust purchases across Asia. Heightened geopolitical risks and uncertainty ahead of the US election in November have also fuelled demand for gold as a safe haven, contributing to its record-breaking rally.
At the recent Jackson Hole conference, Federal Reserve chair Jerome Powell confirmed that the Fed would cut interest rates on Sept 18.
“The time has come for policy to adjust. The direction of travel is clear,” Powell said.
Gold prices have risen after Powell affirmed the expectation that the US central bank will soon begin lowering rates. Lower borrowing costs benefit gold, as it does not pay interest. The Fed has kept its key policy rate in a target range of 5.25 to 5.5 per cent – the highest level in over two decades – since last July.
Functionally, this could bode well for goldbugs.
If the Federal Reserve cuts rates to combat economic slowdown or deflationary pressures, it could weaken the dollar. A weaker dollar tends to make gold cheaper for foreign investors, increasing demand and driving prices upward.
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Central Bank have supported gold prices through buying
The key question for the gold market now is how quickly the Fed will ease its policy. The latest US jobs report intensified the debate over how much the Fed will cut interest rates at its September meeting. ING’s US economist expects the central bank to opt for a 50 basis point move, but the decision remains uncertain.
In recent years, central banks have significantly supported gold prices through sustained gold buying. If central banks continue or increase their purchases in response to a U.S. rate cut, they will provide strong underlying support for gold’s value. Analysts expect this combination of central bank activity, rate cuts, and geopolitical risks to maintain strong demand for gold.
The downstream effects of this rate decrease include a revived demand for gold-backed ETFs.
Global gold ETFs have recorded four consecutive months of inflows. All regions recorded positive flows with Western funds leading in August.
Source: World Gold Council.
Investors typically increase their holdings in gold ETFs when gold prices rise, and reduce them when prices fall. However, gold ETF holdings had declined for much of 2024, even as spot gold prices hit new highs. Inflows into ETFs finally became positive in May.
Other experts vary only slightly. Some experts, including those at J.P. Morgan, predict that gold prices will reach new highs by the end of 2024, including potential bounces to between USD$2,100 and USD$2,800 per ounce.
The market’s immediate reaction to any Federal Reserve announcement will play a crucial role. A rate cut could initially drive gold prices higher, especially if perceived as a sign of economic weakness. However, overly aggressive cuts or indications of deeper economic problems might trigger short-term volatility.
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Basis cut point a double edged sword
For gold miners, a basis point cut by the Federal Reserve could be a double-edged sword.
While it generally supports higher gold prices, the broader economic implications, market sentiment, and operational cost dynamics must be considered. Gold miners might see an immediate positive impact on stock prices and operational profitability if gold prices rise significantly. Long term effects, however, could depend on how the broader economic environment evolves post-rate cut.
Lower interest rates historically boost gold prices, making gold more attractive as an investment when the opportunity cost of holding it decreases. For gold miners, this translates into higher revenues, assuming stable production costs. Lower rates can also reduce borrowing costs for expansion, but if part of broader economic stimulus, input costs like labour and energy might not decrease, potentially squeezing margins if gold prices don’t rise enough.
The psychological impact of rate cuts plays a role too. If markets see the move as a preventive measure, gold may be viewed as a safe-haven asset, benefiting miners. However, if perceived as a sign of deeper economic trouble, broader market pessimism could overshadow the positive effects on gold prices.
Several gold mining companies could benefit from rising gold prices due to lower interest rates, including Calibre Mining Corp (TSE: CXB) (OTCMKTS: CXBMF), Barrick Gold (TSE: ABX) (NYSE: GOLD), and Newmont Corporation (TSE: NGT) (NYSE: NEM).
Calibre Mining, with its expanding operations in Nicaragua and recent acquisition of the Valentine Gold Project in Canada, is well-positioned to capitalize on higher revenues from increased gold prices. Newmont and Barrick Gold, respectively the first and second largest global gold companies, also stand to see boosted profitability and improved margins from elevated gold demand.
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