Gold Price Analysis: XAU/USD bounces firmly from $1700 level as dollar gains fade

• Gold has bounced firmly from the $1700 level and are back to flat as the USD pulls back from highs.
• The precious metal has mostly traded as a function of USD and higher yields has not hurt it too much.

Spot gold prices have bounced pretty firmly from the $1700 level and are now trading in the $1720s again, where they are back to flat on the day. Gold bulls will be eyeing a move back towards the $1740 level that has acted as a ceiling since 2 March.

Driving the day

The recent turnaround in spot gold’s fortunes, while partly driven by technical buying at the $1700 level, seems to owe itself to a recent pullback from highs in the US dollar; over the last few hours, the Dollar Index (DXY), with which gold has a negative correlation, has dropped back towards the 91.50 level from European morning session highs of just shy of 92.00 and this seems to have helped gold recover from lows.

The recovery in gold comes despite continued upside in US bond yields, which is typically a negative for precious metals; the US Treasury yield curve has steepened sharply on the final trading day of the week, with 10-year yields surging over 10bps to nearly 1.63%, its highest levels since prior to the pandemic. Real yields have also been on the rise, with the 10-year TIPS yields surging back above -0.65%.

Note that while rising US bond yields is typically a negative for precious metals like gold, real yields are still only flat on the week. The fact that nominal yields have rallied so much more than real yields means that inflation expectations have moved higher; indeed, 10-year break-evens are at their highest levels since mid-2014 above 2.26% - rising inflation expectations tend to be precious metal positive, given that precious metals are seen as the ultimate hedge against inflation.

Perhaps this divergence between real and nominal yields on the week and the subsequent rally in inflation expectations has enabled gold traders to focus their attention away from bond market action and more onto US dollar volatility.

US Economic Update

In terms of some key macro developments on Friday; the US Producer Price Inflation report for February does not seem to have left a lasting market impact, but certainly will feed into the “inflation” narrative that has been sending US government bond yields higher; headline PPI showed a YoY growth rate of 2.8%, slightly above expectations for a jump from 1.7% to 2.7%.

Much of this rise is as a result of base effects, i.e. weakness in producer prices this time last year as the US economy went into lockdown for the first Covid-19 wave. The question is, will all the fiscal and monetary stimulus translate into higher rates of inflation over a longer period of time – if so, this might lead the Fed to tighten policy earlier than expected (meaning higher real and nominal bond yields) and this is likely to hurt gold.

Meanwhile, the preliminary University of Michigan survey for March showed the US consumer in much better-than-expected shape (which should not be too surprising given every American received a $600 cheque in January).

Looking ahead, US President Joe Biden will be giving remarks on the implications of his recently signed into law $1.9T “rescue” package and is likely to also speak on his plans for the next, much more infrastructure-focused “recovery” package, which (according to various reports this week) could have a multi-trillion price tag over the next four years.