A Trading Range After All

After reaching about US$1142 last night, gold fell almost $30/oz on the strength of the U.S. dollar. As of the time of this post, spot gold's slumped to $1114.90. Both this report and this one ascribe the drop to the continued rise in the greenback. The former report mentions dollar short covering as one of the causes of the U.S. dollar's strength, and the latter points out that investment demand for gold remains strong.

Somewhat ironically, the U.S. dollar was driven up by the Fed's remarks. Conventional forex theory says that the greenback shouldn't have benefited all that much from yesterday's Fed announcement, as the FRB promised to leave interest rates at the ultralow level they're at now. As long as rates are foreseeably at 0-0.25%, there's no additional incentive for any significant capital inflows. Why change a capital-allocation decision when the ultralow yield (the incentive) isn't going to change?

And yet, the greenback's still climbing on recovery hopes. The obvious explanation comes from traders: the U.S. dollar was too oversold, or went down too fast and hard, so it was bound to recover anyway. Another reason is recovery-related: as the U.S. economy heals, stocks will continue to go up. Consequently, there'll be less U.S. demand for other asset classes, including foreign stocks, and more foreign demand for U.S. assets - especially U.S. stocks. This net demand for U.S. assets provides an additional source of demand for the U.S. dollar itself.

A plausible reason...but, ironically, U.S. stock futures are down too. As the Wall Street Journal Online puts it, "US Stock Futures Lower On Post-Fed Hangover."


So we're back to the earlier rationale: the greenback is rising because an expected Fed rate increase is being discounted, even though the Fed board has given no indication that they'll follow through on that expectation.

(And it's said that the gold market is irrational...)