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The Fed’s Dual Mandate, Strong Physical Markets a Mana for Gold

By Bart Melek, Managing Director & Global Head of Commodity Strategy, TD Securities

Despite the Federal Reserve’s current commitment to a restrictive policy stance and a drop from its highs, we believe that gold is likely to trend up to a sustained level of $2,100/oz in the latter part of the year. An anticipated early drop in nominal and real policy rates, concerns surrounding USD hegemony, strong physical buying by the official sector and robust retail interest are the key reasons driving our positive outlook.

Financial sector stability concerns in the aftermath of the collapse of several US lenders, Credit Suisse’s forced merger with its Swiss competitor, large deposit losses by American regional banks and the Fed’s dual mandate are additional factors that make us believe that policy rates may drop before inflation is fully tamed. This, along with discretionary investor positioning, suggests that risks to gold prices are to the upside.

Gold Outperforms Despite Fed’s Hawkish Signals

Gold has again outperformed most other major asset classes over the last twelve months. It was able to resist the usually subtractive rising interest rates and Fed narratives pointing to higher rates for longer due to record official sector and strong retail investor buying. Central banks and investors looked to the yellow metal as a safe haven to protect against the ravages of inflation, geopolitical risks, and concerns surrounding the hegemon status of the US dollar.

The growing amount of energy transactions in non-dollar terms, and active talk of using alternatives for international transactions to negate the impact of potential US financial sanctions in the aftermath of sanctions on Russia, have fuelled this demand. The official sector bought a record 1,136 tonnes in 2022, with purchases continuing to be firm this year. This will continue to keep the gold market well-supported, even if rates rise modestly over the next six months.

More recently, price support was delivered by the outsized difference between the higher Fed funds rate forecasts from the FOMC dots for 2023 and 2024, and the low levels futures markets are pricing. Indeed, the 50-70 basis points (bps) differential for end-2023 and the some 100-bps spread for end-2024 helped to propel gold to north of $2,045/oz in mid-April, with an assist from a somewhat weaker greenback.

While the market isn’t particularly troubled if rates rise by 25 bps more than expected, traders are looking at when the pivot to a dovish monetary policy stance will occur. At this point, they believe that the Fed will signal lower rates in the second half of 2023, as economic data weakens.

However, policy ambiguity in the face of still firm economic statistics suggests that there may be renewed weakness into the summer, before our predicted sustained move into the $2,100/oz territory manifests. It is still possible that the market comes closer to where the current FOMC dots sit, which would keep specs and other investors on the sidelines in the near-term, until the timing of a pivot lower is more certain. Eventually, the central bank will likely talk cuts before the inflation target is reached, and the yellow metal should then react, increasing long exposure before the rate cuts actually occur. We believe this policy switch will occur at year-end, hence our view that gold starts to firm materially in the summer months.

Fed’s Credibility Problem is Gold Supportive-but Also Represents Correction Risk if Expectations Align

Fed’s Credibility Problem is Gold Supportive-but Also Represents Correction Risk if Expectations Align​
Source: Bloomberg, TD Securities

Discretionary Investor Positioning Suggests Upside Risk

Discretionary Investor Positioning Suggests Upside Risk​
Source: TD Securities

Monetary Policy Priorities are in the Eye of the Beholder

With officials emphasising that they are structuring policy to reduce harm on the low end of the income distribution, we and the gold market believe that as soon as inflation is judged to no longer be overly harmful to that cohort and that slow economic growth and unemployment pose the biggest danger, the US central bank may well quickly pivot toward a dovish policy stance.

Based on the income and wealth inequality and equity narratives being propagated by policy makers, it is reasonable to assume that a committed inflation fight is unlikely if it harms the poor. As such, policy can turn on a dime. After all, the Federal Reserve Act mandates the US central bank to maintain price stability and full employment, which are often conflicting objectives that permit a policy skew to either target, depending on the philosophical bend of the policymakers.

Many in the market believe that monetary policy will tilt dovishly considerably before US inflation reaches the implied 2% target. This aligns with our forecast, which expects only modest disinflation before the Fed starts cutting rates towards the end of the year, potentially leaving real rates lower than in previous cycles. The significant differences between the Fed’s policy signals and market pricing present a fundamental credibility problem.

Many gold market participants believe that the current implied 2% inflation target is flexible, and that the recent banking issues may have already tightened policy materially, necessitating earlier rate cuts than anticipated.

Indeed, the fear of a generalised banking crisis has some central banks and investors buying gold, despite the Fed’s hawkish talk. Many investors are concerned that the Fed really doesn’t know how much more tightening can happen before the economy weakens materially and banking stresses reemerge as “there is never just one cockroach”.

Perhaps maintaining full employment and financial stability will take priority over strict inflation targeting. It may be that a high-interest rate environment does not allow the US financial system to operate smoothly, given its current structure.

Bank Deposits Are Declining at the Fastest Annual Pace on Record

Bank Deposits Are Declining at the Fastest Annual Pace on Record​
Source: Federal Reserve, TD Securities

Central Banks and Physical Investors Key to Gold’s Success

Gold is no one’s liability and carries no counterparty risk! Since the yellow metal is a physical asset that requires real inputs such as labor, energy and capital to get out of the ground, it tends to offer excellent protection against the loss of purchasing power over the long-term as its marginal costs imbed inflation. It is also a very liquid, scarce asset with intrinsic value through many millennia, and a luxury good as much as it is an investment that is inversely correlated to the US dollar and equities over time. These characteristics make it an excellent diversifier and a vehicle to mitigate losses in times of market stress, and can serve as a hedge against inflation and currency risk.

Given a year of outsized inflation, concerns surrounding the greenback’s reserve currency status and growing geopolitical tensions, it should come as no surprise that central banks, the broader official sector, and retail investors have a ferocious appetite for physical gold. There is a real worry that the US may need to fund its massively growing deficit via stealth monetisation, as tax receipts are not likely to grow sufficiently.

Marginal Cost Rises Along with Higher factor Costs— Making Gold a Good Inflation Hedge

Marginal Cost Rises Along with Higher factor Costs— Making Gold a Good Inflation Hedge​
Source: GFMS, Metals Focus, TD Securities

Western Demand Hit Record Levels

Western Demand Hit Record Levels​
Source: World Gold Council, TD Securities

Physical Gold Dominant Over Financial Flows

Physical Gold Dominant Over Financial Flows​
Source: TD Securities, Bloomberg, Metals Focus

Declining LBMA Vault Holdings Point to Strong Physical Demand Abroad

Declining LBMA Vault Holdings Point to Strong Physical Demand Abroad​
Source: TD Securities, Bloomberg

Official Sector Purchases at Record Highs

Official Sector Purchases at Record Highs​
Source: TD Securities, Metals Focus, Refinitiv GFMS, World Gold Council

Geopolitical Tensions, Sky-High Debt and Monetary Policy to Support Gold

China, which has a massive $3.18 trillion dollars of FX reserves, has started to purchase gold again. The People’s Bank of China purchased 18 tonnes of gold in March, which marked a fifth consecutive month of buying. But China’s gold reserves are still a paltry 2,068 tonnes, representing only 3.6% of the country’s total FX reserves. Contrast this to gold’s 67.1% share of US reserves, Germany’s 66.5% portion, Italy’s 63.6% portion or France’s 58.6% share, and we conclude that China’s bullion purchases have a way to go.

Even a modest increase to 10% would hike demand by some 320 tonnes. A move to 25% (less than half of its geopolitical competitors) would boost demand by over 1,000 tonnes. This could come alongside purchases by other non-western world aligned nations. Emerging market central banks have already been reducing their USD FX shares.

Elevated tensions between the US and Russia, China, and Iran will likely see this trend continue, as these nations believe that America may use financial sanctions such as blocking access to the SWIFT system in order to achieve its political goals. This will be very supportive of gold prices, as it was last year when monetary conditions were not.

In addition, FX reserve managers and private investors fear that the US will continue to live beyond its means, which suggests that monetisation and above-trend inflation are risks. The recently passed US Inflation Reduction Act, which features America-first policies, massive capital spending, and unfunded social security liabilities all support such concerns. As such, official purchases and monetary conditions should work together to support gold in the second half of 2023.

Growing Debt Increases Appetite for Headge

Growing Debt Increases Appetite for Headge
Federal Reserve Bank of St. Louis, Bloomberg, TDS Commodity Strategy

Plenty of Room For China to Grow Reserves

Plenty of Room For China to Grow Reserves​
Source: World Gold Council, TDS Commodity Strategy

EMs Grow Resources the Fastest — Geopolitics, USD Angst the Reasons

EMs Grow Resources the Fastest — Geopolitics, USD Angst the Reasons​
Source: IMF, TDS Commodity Strategy
BART MELEK

BART MELEK has over 20 years’ experience analysing precious metals, base metals, energy, financial markets, as well as key economies. He has worked closely with commodity, equity and FX trading desks around the world, and has several forecasting distinctions and top global rankings. Bart contributes to the TD Securities strategic view on commodity, various other markets and macroeconomics. Bart is also a sought-after media commentator. Previous to joining TD, he had senior roles in equities, commodities and risk. He holds a master’s degree in economics from York University in Toronto, with an International Finance/Banking Specialization.

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Emily Oh

OPERATIONS & ADMIN EXECUTIVE
Emily Oh is the Operations & Admin Executive, a seasoned professional who values teamwork and effective communication. She is skilled at adapting to new challenges and takes a proactive and resourceful approach to every task. Before joining SBMA, Emily had experience coordinating international travel arrangements and spearheading community initiatives. Her role at SBMA will be providing operational and administrative support for projects and other matters to the team.

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Clara Chang

MARKETING & COMMUNICATIONS EXECUTIVE
Clara Chang joins SBMA as the Marketing & Communications Executive, enriching the team with her extensive experience in content creation, social media management, and digital marketing. Prior to joining SBMA, Clara held the position of Marketing Executive at her previous job. She holds two bachelor’s degrees from the University at Buffalo, one in International Trade and another in Geographical Information Science. Her core duties will include maintaining the SBMA website, managing the quarterly Crucible newsletter, among other responsibilities.

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Mr John Levin

Global Metals
TD Securities
John Levin is the Head of Metal Sales & Trading – APAC at the Toronto Dominion Bank’s Singapore office. Prior to this role, he devoted seven years to leading precious metal sales for the ANZ banking group in his home country, Australia. Notably, from 2009 to 2011, John played a significant role on the management committee of the London Bullion Market Association while serving as the Head of Precious Metals Sales for HSBC Global Banking and Markets in the UK.

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Fabian Lew

MARKETING & COMMUNICATIONS OFFICER

Fabian was a Business Development and Marketing Associate before joining SBMA. He graduated from Singapore Management University with a Bachelor’s degree in Economics.

He has joined SBMA since February, 2022.

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Margaret Wong

BUSINESS DIRECTOR

Margaret Wong, Business Director at SBMA (Singapore Bullion Market Association), brought valuable experience from her previous role at the World Gold Council (WGC). Her tenure at WGC provided her with extensive exposure to the gold community in Singapore and the broader region. This background has been instrumental in establishing strong working relationships within the industry.

Margaret’s role at SBMA encompasses a diverse range of responsibilities. She oversees office management, business support processes, finance, and administrative functions essential for the smooth operation of the team and management committee. Additionally, Margaret handles membership matters, member communications, and addresses public inquiries related to SBMA.

One of Margaret’s key responsibilities is coordinating with the Event Management Company for SBMA’s prestigious annual event, the Asia Pacific Precious Metals Conference. This flagship conference plays a crucial role in the industry, making her involvement pivotal in its success.

Described as resourceful and self-motivated, Margaret Wong brings a wealth of skills and experience to her role at SBMA, ensuring efficient operations and effective engagement within the precious metals community in Singapore and beyond.

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Albert Cheng

Chief Executive Officer

Albert Cheng joined the World Gold Council in March 1993 as a Regional Manager, becoming Managing Director, Far East in 2003. He retired at the end of March 2015 and was subsequently named its Advisor. He has also been an International Advisor to the Shanghai Gold Exchange since 2002.

His marketing career began with Dentsu Young & Rubicam, Hong Kong in the early 80’s. He began gold marketing in July 1985 when he joined the Royal Canadian Mint as a Regional Manager for Southeast Asia.

He was appointed honorary CEO of SBMA in November 2015. He is responsible for the success and strategic development of SBMA, represents the interests of the Association, and is responsible for all the legal and regulatory aspects of the work of the Association. He is the primary contact for regulators and government bodies on bullion market development.

Ms Pawan Nawawattanasub

Ms Pawan Nawawattanasub

CEO
YLG Bullion Singapore Pte Ltd

Pawan is the CEO of YLG Bullion Singapore and founder of YLG Bullion International. She has almost 40 years of experience in the jewellery industry and established YLG in Thailand in 2003. In 2012, she brought YLG to Singapore. She sits on the Board of Directors of the Thailand Gold Traders Association, the Thailand Futures Exchange’s Arbitration Committee, and the Rotary Bangkok committee. She holds a master’s degree in Political Science.

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Mr Shaokai Fan

Head of Asia-Pacific (ex China) and Global Head of Central Banks
World Gold Council
Shaokai Fan is the Global Head of Central Banks at the World Gold Council, responsible for advising governments on gold matters, and enhancing the gold market through engagement, dialogue, and thought leadership. He works directly with central banks and sovereign wealth funds on investment considerations. Prior to this position, Shaokai held multiple roles at Standard Chartered Bank, including Director for Asia Strategic Initiatives and Associate-Director for Public Sector coverage. Shaokai holds a Masters of Public Administration from Columbia University and the London School of Economics, and an undergraduate degree in finance and economics from New York University.

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Mr Alan Liew

Head of Bullion & Commodities Trading
United Overseas Bank Limited
Alan is Head of Bullion and Commodities Trading for Group Trading in Global Markets, United Overseas Bank (UOB). Alan joined UOB and started the bank’s commodities trading business in 2014, previously he spent eight years in Standard Chartered Bank (SCB) trading both precious and base metals. During his tenure at SCB, he obtained the SGE gold trader licence and was part of the pioneering team for the SGE business and the FX quantitative trading team. Prior to trading, he worked for Monetary Authority of Singapore in the Financial Risk Management Division. He holds a BSc (Hon) in Computer Science at National University of Singapore and a MSc in Financial Engineering at Nanyang Technological University.

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Mr Nikos Kavalis

Managing Director
Metals Focus Singapore Pte Ltd
Nikos Kavalis is a founding partner of Metals Focus. He has over 20 years of experience in precious metals, having previously worked for the Royal Bank of Scotland and GFMS. Since September 2019, Nikos has been based in Singapore, where he also runs the local subsidiary of Metals Focus.

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Mr Nuttapong Hirunyasiri

CEO
MTS Gold Global Trading Pte Ltd
Nuttapong Hirunyasiri is the CEO of MTS Gold Group, one of Thailand’s top 10 companies and top 3 bullion companies. He started MTS Gold Group’s first overseas office in Singapore and has been expanding the group business internationally. He focuses on product development and innovation for gold investment, with the aim of being a leader in providing the full suite of gold investment services in the ASEAN region.

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Mr Raman Walia

Executive Director, Head of Commodities Sales – APAC
JP Morgan Chase Bank N.A.

Raman is Executive Director and Head of Commodities Sales, APAC, for J.P. Morgan. He joined JPMorgan in 2008 in New York, moved to Singapore in 2011, and helped expand the precious metals business in the region. Raman has an MBA from Cornell University, and likes to travel in his spare time.

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Mr Andrew Clarke

Head of Brink’s Global Services
Brink’s Global Services Pte Ltd

Andrew Clarke is the Head of BGS (Brink’s Global Services) for Singapore, Indonesia, Malaysia and Brunei. He has held various leadership positions throughout his career in secure logistics and risk management with Brink’s, which started in Hong Kong in 2010. Andrew relocated to Singapore in 2018 to expand the precious metals line of business along with Brink’s portfolio of services and industries.

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Mr Kazuya Naoki

Head of Metals, Asia
ICBC Standard Bank Plc, Singapore Branch

Kazuya (Kaz) Naoki is the Head of Metals, Asia of ICBC Standard Bank in Singapore and is responsible for the precious & base metals sales and trading in the region. He joined Standard Bank Plc Tokyo Branch in 2008 and was relocated to its Singapore Branch in 2013 whose controlling stake was acquired by the Industrial and Commercial Bank of China in 2015. Prior to joining Standard Bank, Kaz spent 11 years focusing on commodity trading and risk management with Mitsui & Co in Tokyo, Sydney and London. Kaz has been serving on the SBMA Management Committee since 2016.

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Mr Vinh Nguyen

Head of Precious Metals, Asia
StoneX APAC Pte Ltd

Vinh Nguyen joined StoneX Group in Singapore at the beginning of 2008 and responsible for its APAC precious metals activities since 2019 until now.

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Mr KL Yap

General Manager, Singapore Refining Business Unit
Metalor Technologies (Singapore) Pte Ltd
KL YAP is the General Manager of Metalor Technologies (Singapore) Pte Ltd’s Singapore Refining Business Unit. He joined Metalor in 2013, initially in Refining Sales. In 2014, he became Refining Business Unit Manager, leading the development of a new precious metal refinery. KL was Vice Chairman of SBMA from 2017 to 2021, now serving as Chairman. With a degree in business commerce, finance, and marketing, he brings prior experience from refinery and heavy industries.