The analytical tool known as "SWOT" (Strengths, Weaknesses, Opportunities, Threats) is a popular method for evaluating various kinds of markets. It can illuminate trends as well as underlying fundamentals, taking into account both sides of the story—strengths vs. weaknesses and opportunities vs. threats.
The CEO and CIO of U.S. Global Investors, Frank Holmes, presents his own SWOT analysis of the gold market, homing in on the role of the Federal Reserve will play in either hurting or helping the prospects for the yellow metal this summer.
First and foremost, the greatest strength of the gold market in 2016 has been the lack of productivity, growth, and stability in the world economy. This has been true throughout the calendar year, not just recently. Moreover, the chances for improvement over the rest of the year (and perhaps even into next year) appear few and far between.
One of the most glaring signs of this instability has been poor manufacturing data in the U.S. and elsewhere. There has been a collapse in new capital goods orders, which have declined for three consecutive months. Further, Purchasing Managers' Index (PMI) readings in Japan, Europe, and the U.S. were all disappointing in April and May. To the same token, construction spending in the U.S. fell by the largest margin in five years during April.
Another factor in gold's favor has been the interest-rate environment. With low (and in some cases even negative) yields on sovereign debt across the board, gold becomes a more attractive safe haven. Fittingly, the first quarter saw global gold demand surge to 1,290 metric tonnes, the highest-ever Q1 gold demand on record.
One of the benefits of SWOT analysis is that it covers both sides of the coin. To be sure, there are weaknesses in the outlook for gold right now, as well. The precious metals had a rather lackluster performance in May as the gold, silver, and platinum markets were awash with bearish sentiment.
Perhaps the strongest driver of this slump in investor sentiment has been hawkish talk from the Federal Reserve. Fed officials spent the month consistently raising the possibility of an impending rate hike, opening the possibility for multiple rate increases before year's end. This naturally spurred the dollar higher, a development that generally doesn't bode well for the precious metals.
Another trend that's placing downward pressure on the metals is the utter mayhem roiling the Venezuelan economy. The country is mired in rapid inflation that is being exacerbated by the socialist government's insistence upon strict price controls. Lack of access to food and medicine is at crisis levels. This has impacted the gold market because Venezuela has had little choice but to sell off its gold reserves in desperation. This added supply to the market helps drive prices lower. The IMF reports that Venezuela's central bank sold 24% of its gold last year and has depleted those reserves by an additional 16% so far this year. Bloomberg reports that this amounts to the biggest sell-off of gold by a central bank in eight years.
One distinct opportunity for the gold market arises if the Fed is bluffing (as it has been prone to doing in the past). The potential for a collapse in interest-rate expectations would be supportive of a stronger gold market by amplifying the factors presented in the "Strengths" section of Holmes' analysis.
The Fed puts itself in a difficult position if it ultimately cannot raise rates soon. June may not be a good target for such a move given the soft economic data of late as well as the risk factor of a "Brexit" situation in the U.K. Meanwhile, the November meeting clashes with the U.S. presidential election, making a hike unlikely, as well. With scant opportunity for a "safe" rate hike by the Fed in the coming months, a golden opportunity for the gold market could open up.
Reinforcing the central role that monetary policy will play in the precious metals market for the rest of 2016, perhaps the biggest threat to gold is the chance that the Fed actually does raise interest rates twice this year.
As the chart above shows, stronger rate hike expectations boost the dollar at the expense of gold prices. Some analysts predict that successively rising interest rates could prompt gold traders to "roll over," squeezing spot prices as low as $1,150/oz.
Keep in mind that we have already seen some price action of this nature already based on the mere suggestion that the Fed could pursue a rate hike soon; the federal funds rate actually hasn't budged since December. Nonetheless, we've already seen weaker gold sales in Hong Kong, a growing gold hub, due to a belief that the yellow metal will be cheaper in the coming months.
It would seem that the various SWOT factors are fairly balanced for the gold market right now. In addition to a general sense of uncertainty, it's likely that little will change until the next FOMC meeting is held in about two weeks. The markets will have to sit and wait patiently until then.
The opinions and forecasts herein are provided solely for informational purposes, and should not be used or construed as an offer, solicitation, or recommendation to buy or sell any product.