Gold remains at risk of staging a deeper correction. Though the dollar has eased back a bit along with yields, both still remain fundamentally supported. The US 10-year yield holds support around 5% and a late surge in oil prices on Friday revives inflation concerns. In fact, both precious metals reversed lower on Friday after initially extending Thursday's broad-based recovery, a sign that the sellers have not gone away. With crude elevated and yields still near recent highs, the risk to the near-term gold forecast is tilted to the downside, although central bank buying could limit the damage.
- The US 10-year yield is testing former resistance between 5.00% and 5.05% as support.
- Crude added around $3 late on Friday as concerns over a potential US attack on Iran resurfaced.
- Central bank demand, including from the People's Bank of China, could provide a floor under gold.
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Oil rally revives the risk premium
Oil prices surged in the final hours of Friday's session, with crude adding around $3 as concerns over a potential US attack on Iran resurfaced. With no obvious new catalyst in the headlines, the move appears to reflect lingering anxiety over the possibility of US military action, particularly after reports that the Pentagon was preparing for potential ‘mother of all bombs’ strikes on Iran.
Donald Trump did not directly push back against those reports when given the opportunity, although he has previously said the US would not attack Iran before the midterm elections. That leaves markets trying to reconcile two conflicting signals, while the risk premium in crude remains elevated. Iran itself could also seek to escalate tensions, since higher oil prices and the squeeze on global consumers could give Tehran additional leverage, even at considerable cost.
Whatever the explanation, the oil move is increasingly spilling into other markets. Higher crude prices reinforce inflation concerns and complicate the outlook for interest rates. The Nasdaq suffered one of its worst sessions of the year, falling around 2.2%. Any further gains for oil could be particularly problematic for equities, and it could also limit the downside in bond yields, creating a more favourable backdrop for the dollar and a difficult one for gold.
Bond yields find a floor around 5%
The US 10-year yield is meanwhile holding its own above a major area of support between 5.00% and 5.05%, which acted as resistance until the big breakout on 23 September. The pullback in yields earlier in the week, despite hotter-than-expected CPI and PPI readings, raised questions over whether yields had topped out. I don't think they have. With no change in the underlying macro backdrop, the path of least resistance for yields remains higher, and a renewed climb from this former resistance area could allow the dollar to make a comeback at gold's expense.
With a light US calendar next week, oil and Treasury yields are likely to dominate the outlook for the dollar and gold.
Central bank buying could put a floor under gold
That said, the fundamental backdrop is more complicated than the short-term price action suggests. China provides the main macro event on Monday. The world's second-largest economy grew 4.3% year on year in the second quarter, slightly below expectations, while third-quarter growth is forecast to edge up to 4.4%. Industrial production, retail sales and employment data are also due. A weak set of numbers would probably weigh on metals, particularly industrial metals such as copper and silver, and gold could also come under pressure if concerns over Chinese demand intensify.
For gold, however, Chinese demand is only part of the story. Continued buying by the People's Bank of China and other central banks remains an important structural support, and there is little evidence so far that official-sector demand is about to disappear in the final months of the year. If purchases remain strong, investors and speculators could attempt to front-run that demand through ETFs, spot and futures markets. In other words, while the near-term technical picture has deteriorated, central bank buying could provide an important floor under gold.
Technical gold outlook and key levels to watch
From a technical analysis point of view, gold staged a decent recovery from key support around $4,075 to $4,100, the base of the rally that began in early August, before reversing lower on Friday. Friday's bearish close suggests the sellers are still active, and silver's collapse through key support at $59 earlier in the week is a warning that gold could follow.
For gold, a move above the trend line would be a constructive signal, but the area of resistance above it near $4,223-$4,282 also needs to be taken out before a bottom can be confirmed. Until then, XAUUSD could face another bout of selling early next week, especailly if oil remains elevated and Treasury yields recover.
Consolidation remains the name of the game until gold clears resistance or loses its August base.
Frequently Asked Questions
Why could higher oil prices weigh on gold?
Higher crude prices reinforce inflation concerns and could limit the downside in bond yields, which in turn could help the dollar recover at gold's expense.
How could China's GDP data affect gold?
Weak Chinese data would probably weigh on metals, particularly copper and silver, and gold could also suffer if concerns over Chinese demand intensify.
Could central bank buying support gold prices?
Continued purchases by the People's Bank of China and other central banks remain an important structural support. If that demand holds up, it could cushion gold even if the dollar strengthens or yields rise.
-- Written by Fawad Razaqzada, Market Analyst | Follow Fawad on Twitter @Trader_F_R
