While markets are assessing the Russia-Ukraine risk, the gold price has benefited from the safe-haven appeal. And this geopolitical conflict could have an even more significant impact, given the current macro environment where investors are pricing in a policy error by the Federal Reserve, according to MKS PAMP.
Fed’s policy mistakes and their effects on the markets
Nicky Shiels, head of metals strategy at MKS PAMP, evaluates the rising inflation in the USA and the stance of the Federal Reserve as follows:
The US has the highest inflation since 1982, coinciding with a still technically easing Fed. The market incorrectly assumes that the contraction is tightening, but the Fed simply adds less liquidity.
With inflation in the US at its highest levels in four decades, markets worry that the Federal Reserve has already made another ‘policy mistake’ by acting too late. Nicky Shiels comments on the Fed’s mistakes:
Markets are shifting from a recent Fed error (misreading inflation and characterizing it as temporary) to a new potential Fed error (premature recession on aggressive rate hikes or uncontrollable inflation).
“Gold price may rise for ‘wrong’ reasons and find higher ranges”
While geopolitical fears are often temporary drivers for the precious metal, the geopolitical situation looks extra favourable for gold, given the escalation between Russia and Ukraine. The head of strategy explains the current situation as follows:
We have always stated that geopolitics offers better opportunities to lower the price of gold than to pursue purchases. But when these headlines are 1) this kind of uncertainty around the Fed and inflation, 2) general market anxiety, and 3) suddenly, an advertised technical inflection point, the gold price could rise and find higher ranges for the ‘wrong’ reasons. Higher bottoms, dips and volatile markets continue.
Comparison of the effects of the annexation of Crimea and the Ukrainian tension on the gold price
MKS PAMP also likens gold’s reaction to Russia’s 2014 annexation of Crimea to its behavior this time around. MKS notes that gold is a war cover and there is even higher potential for action after gains of around $80 in the current Russia-Ukraine conflict compared to the escalation in 2014. Nicky Shiels compares with some calculations:
Gold’s last rise was $80 versus $140 at the time. The $80 ‘price increase premium’ so far is 4/7 of what it was in 2014, with entries far more meager. It’s only 1/4 the size seen back then. In general, it is too early for the bulls to remove the puffs. Prices are constructive with this last breakout/exit (3rd time). But historically, the price of gold has lagged behind what it could potentially achieve.
However, much of gold’s rise over the past week was also driven by increased inflation risk as more investors chose the safe-haven metal to hedge against rising price costs. This adds strength to the geopolitically triggered higher movement in the precious metal. The strategist evaluates this situation as follows:
Given the relatively lighter positioning and strong physical demand, gold looks likely to struggle.