Fed Discount Rate Hike Slams Down Gold, Which Stays Down

Yesterday afternoon's Fed announcement of a discount rate hike was called merely a credit-market normalization measure, but was interpreted by the market as a tightening measure. Gold fell almost twenty-five dollars an ounce between the time of the announcement and 7 PM ET, in three stages that spanned the end of regular trading and the beginning of evening trading. By the time the selling spree was over, the price of the metal was below $1,100. That support level held, though, as plummet turned into trading range. Gold settled into one after some post-plummet choppiness, trading around the $1,105 level for the last two hours of the night.

A slump ensued as yesterday turned into today, taking the metal down to the $1,110 level twice. The second try at breaking $1,100 was at about 2:30 AM, forty minutes after the first. Gold reached $1,099.40 as of the latter bottom, but took off after it was made. By 4 AM, the price was above $1,110.

Between 4 and 7:10 AM, the metal traced out a saucer-shaped formation as a pulback lost steam and was replaced by a renewed attempt at a rally. The $1,110 level was run at again and briefly surpassed around 7:20. As of 8:05 AM ET, spot gold was at $1,110.80 for a gain of $2.70 since yesterday's close. The Kitco Gold Index attributed $4.60 worth of change to predominant buying and -$1.90 worth due to strengthening of the greenback.

Speaking of it, the U.S. Dollar Index went for a wild ride last night that saw it make a new high not seen since last June. The drop in gold was wild, but the gain in the Index in the 4:30 to 7:00 PM timeframe was pretty extreme. From 80.39 as of 4:30, the Index shot up to 81 even within ten minutes and, after a pause, continued climbing steadily until reaching 81.36 between 6:50 and 6:55 PM. That's a gain of almost one full point in less than two-and-a-half hours.

From that time to about 7:10 AM, the Index traded raggedly in a wide trading range bordered by about 81.3 on the upside and 81.1 on the downside. Attempts to break through on the upside as of 1:25, 2:25 and 3:30 made for a triple top at the 80.33 level, but the Index failed to decisively break out of the range each time; by 4:20, it had fallen from slightly above the top end of the range to slightly below the lower end. That break downwards failed to get steam, and the Index lumbered back up to the 81.23 level by 6:40. The end of the range came on the downside, as of about 7:10 when the Index sunk to 91.075, got clogged at that level, failed to re-rally decsively above 80.1, and continued creeping down. As of 8:05 AM ET, the Index was at 81.06.

I note, in passing and once again, that the long end of the U.S. dollar trade has been really crowded as of late. The Fed hike news, although not what many dollar/euro longs were expecting, gave them a bonanza. The crowd (non-commercial longs) has been unexpectedly right on the trade, in a big way. This kind of success combined with prior popularity makes for enthusiasm.

As of 8:30, the Consumer Price index number was announced. The overall rate was a lower-than-expected 0.2%, and the core rate actually declined 0.1% annualized over the last month. Expectations for the core rate were for a gain of 0.1%. Despite yesterday's higher-than-expected PPI number, there's no evident inflation on the consumer-price horizon as of yet. The case for Fed tightening of the Fed Funds rate is weakening, making the Fed more likely to take the market reaction to yesterday's discount-rate hike as a sign that it's not yet time to tighten up.

Counterintuitively, the U.S. Dollar Index slumped after the number was announced; as of 8:34 AM, it got to below 81. That slump didn't last, and perhaps was caused by selling on the news. As of 8:41. the Index got up above 81.1 before pulling back somewhat.

After falling when regular trading opened, gold jumped up more than three dollars an ounce before backtracking; by 8:42 AM, the metal's price was at $1,106.90: lower than it was as of just before 8:30. Despite fillips in the opposite direction, and later indecisiveness, both the greenback and gold were trading in line with the CPI release twelve minutes after its release.

Moving back to last night's decline, a Reuters report webbed by the Globe and Mail says that European buying, fueled by concern over the continuing Eurocrisis, stopped the decline:

The metal was sharply lower in Asia but met buying interest in early European trade amid fears over instability in the currency markets. The euro is suffering from dollar strength and concern over the fiscal health of smaller euro zone economies.

Quoted later is an analyst who sees the decline being a portent if the Fed follows through:

“This development...is near-term gold-bearish, as it reduces liquidity,” said HSBC analyst Jim Steel in a note. “Highly accommodative monetary policies have been an important element in the gold rally.”

He noted, however, the Fed's assertion that the change was not expected to lead to tighter financial conditions or lead to a change in the outlook for monetary policy.

“If this implies monetary policy will remain lax, then the sell-off may be brief,” he said.

An earlier Marketwatch report has an expert, perhaps after seeing the IMF sale annoucement turning into a non-event, pooh-poohing the fears that the recent recovery will turn into conditions more like those in the second week of February:

Gold's decline Friday in Asia is a "knee-jerk reaction" following the surprise rate move after New York markets closed, said Patrick Kerr, a managing director at Amerifutures Commodities & Options...

"Once the market digests this, maybe tomorrow morning N.Y. time or so, we could see a huge rally late in the day or early next week," he said.

"This is the so-called 'boogey-man' that was going to crush gold [but it's] still above $1,100," he said. "Now that folks see that a rate increase didn't demolish gold, the boogey man doesn't seem so scary anymore so it's full speed ahead."

The gold market did digest the IMF news well, but that might be because the players decided that the IMF announcement was a non-event as the IMF was scheduled to sell that amount of gold anyway. Speaking of the IMF sale, Afrol News has an item entitled "World Gold Council welcomes IMF gold sales." Aram Shishmanian, the Chief Executive Officer of the WGC, complimented the IMF for unloading the gold in an orderly and non-disruptive way.

It seems that the fears are dissipating more rapidly now, which makes sense in a way because the last two market-shaking items were shaken off. However, I note a certain blitheness appearing.

As it turned out, the U.S. Dollar Index met the CPI news with some see-sawing in a corkscrew pattern that was narrowing towards the 81.06-.07 level. Gold has actually rallied after see-sawing itself; the above-mentioned erasure of the initial post-8:30 gain proved to be the second half of a double bottom. As of 9:10 AM, the metal was at $1,113.60 on the spot market for a gain of $5.50. The Kitco Gold Index attributed a $1.25 drop due to U.S. dollar strength and credited $6.75 worth of rise due to predominant buying.

Perhaps that blitheness is justified after all.