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Gold Corrects to Another Higher Low and Bounces

Barchart - Thu Mar 16, 2023

In a February 28, 2023, article on Barchart, after rising interest rates and a strong U.S. dollar caused a significant downside correction in gold, I wrote, “Since 1999, every correction in gold has been a buying opportunity, with the latest record high coming in March 2022 at $2,072 per ounce. Interest rates and the currency markets may not support gold in late February 2023. Still, the geopolitical landscape could be the most significant factor for the metal that is the world’s oldest means of exchange.

The continuous COMEX gold futures contract fell to $1807.80 on February 28, where the precious metal found another higher bottom and took off on the upside, rising over the $1,900 level on March 13. 

Gold rallies as two U.S. banks go under

On Friday, March 10, news of two bankruptcies at Signature Bank and Silicon Valley Bank sent gold higher as investors sought safety from an impending systemic banking crisis. With over $200 billion in assets, Silicon Valley Bank was the second-largest bank failure in U.S. history. 

The chart highlights the rally that took nearby April gold futures to $1,942.50 per ounce, the highest price since February 2. At above the $1,925 level on March 16, the active month COMEX futures could be headed for a test of technical resistance at the February 2, $1975.20 high. 

The Fed may need to pause or slow

As news of the bankruptcies spread, policymakers, regulators, and Fed officials scrambled to guarantee deposits in what was not a bailout of the financial institutions but a move to protect depositors and payrolls. Silicon Valley Bank was the leading financial company supporting emerging innovative technology companies.

SVB got into trouble as it invested deposits in long-term Treasury debt securities. When held to maturity, the bonds have no risk. However, rising interest rates caused the mark-to-market value to decline. As depositors simultaneously withdrew funds, the bank could not meet its obligations because the bond’s value declined, creating massive losses. 

The bank failures are an unintended consequence of the Fed’s battle against inflation. Still, they also revealed the incompetence of regulators and government bodies conducting stress tests in the banking sector. Bank failures can lead to systemic risks that impact markets across all asset classes. The Fed may need to curb its enthusiasm for rate hikes at the upcoming March FOMC meeting. While the government bodies calmed the markets with guarantees, the failure remains dangerous for small-cap companies seeking funding and the Silicon Valley technology industry. The financing cost for emerging companies will likely dramatically increase after the failures. Meanwhile, the event could be an opportunity for cash-rich technology companies who can purchase new and innovative companies at bargain basement prices because of the decline in financing options. 

Bank failures make investors skittish, and gold’s role as a harbor of safety caused a herd of buying in the precious yellow metal. This week’s troubles at Credit Suisse, one of Europe’s leading banks, did not stop the ECB from increasing short-term rates 50 basis points. However, the ECB is far behind the U.S. Fed in tightening credit. 

The geopolitical landscape continues to support gold

Markets reflect the economic and geopolitical landscapes. The bank failures and inflation at the highest level in decades are bullish for gold. The bifurcation of the world’s nuclear powers, the war in Ukraine, and deteriorating relations between Washington and Beijing increase the risk of war worldwide.

The U.S. dollar has been the world’s reserve currency for years, but events over the past year have weighed on the dollar’s role in the global financial system. China, Russia, and their allies have sought non-dollar assets for international trade and cross-border transactions. Moreover, the world’s central banks have been significant gold buyers over the past year. In 2022, central banks were ‘colossal’ buyers. China and Russia have increased reserves by moving domestic production into strategic holdings. In early 2022 as sanctions weighed on the Russian economy, the central bank declared 5,000 rubles could be exchanged for one gram of gold. The move caused the ruble to rally against the U.S. dollar. China and Russia could be moving towards backing their respective currencies with gold to challenge the fiat U.S. dollar’s dominance in the worldwide financial system. The bottom line is that gold is the world’s oldest currency, and could be making a significant comeback as hard currency. 

Gold senior and junior mining stocks validate gold’s rally

One of the factors in the gold market I like to watch as an investment demand indicator is the price action in gold mining stocks versus the underlying metal. In a bull market, the mining stocks tend to outperform the metal on a percentage basis.

April gold futures rose from $1,813.40 on March 8 to $1,942.50 on March 15, a 7.12% increase. 

GDX is an ETF with a leading senior gold mining shares portfolio. The chart shows the rally from $26.59 on March 9 to $29.83 on March 15, a 12.19% gain as the GDX outperformed gold. 

GDXJ, the junior gold mining ETF, rallied from $32.25 to $36.12 per share, or 12%, over the same period. GDX and GDXJ outperformed gold, which validates gold’s rally as investors have piled into the metal and gold mining stocks. 

Levels to watch in gold 

The first technical resistance level stands at the February 2, $1975.20 high, with short-term support at the February 28, $1,810.80 low. Gold made a slightly higher low on March 8 at $1,813.40.

From a long-term perspective, the upside target is at the March 2020 $2,072 high. Gold has been making higher lows, and higher highs since 1999, and the trend looks likely to continue as the economic and geopolitical landscapes support a bull market for the world’s oldest currency. 

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On the date of publication, Andrew Hecht did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.

Provided Content: Content provided by Barchart. The Globe and Mail was not involved, and material was not reviewed prior to publication.