Gold Quietly Breaks 1050

The dollar is what is ruling these markets right now. For the time being, the gold price seems inextricably linked to the dollar. Higher dollar, lower gold; and vice versa. 

There have been some buyers coming in in gold this week, but the dollar spoiled their plans starting around 5 this morning. Bad European economic data caused the dollar to rally. The dollar rally extended at 8:15 when the ADP preliminary employment number came in better than expected. The dollar continued making new highs as Janet Yellen spoke in the afternoon. By the end of her speech (which my angry colleagues tell me I am lucky to have not listened to) the dollar had given up all of its gains, even dipping back below the psychologically important 100 level on the dollar index.

The one thing that has actually been clear in these markets is what data is bullish and bearish for the dollar index. Bad Euro economic data is perceived as bullish dollar. Bad Euro data increases the perceived likelihood of European QE, which would put pressure on the Euro. Positive news in the US (good jobs report) increases the perceived likelihood that the Fed will raise rates later this month. Since there is at least a literal connection between interest rates and the economy, positive US data makes it appear that the Fed is more likely to raise. This, in turn should be bullish dollar.

But what happened this afternoon? As my friend put it, "She made it seem like they were going to raise rates, and the dollar rallied. Then she started talking about what might happen after that, and I just got confused". Apparently, whatever confusing words she used were enough to bring some selling into the dollar, and gold managed to hold a low of 1049.4.

I find it interesting to note that the stock market took a turn to the downside after her confusing speech. I apologize for having not listened to the speech I am referencing, but I have been confused enough by her in the past, and will take people at their word when they tell me she made things unclear. The stock market does not like this uncertainty. We have seen this before. "Raising rates" is not necessarily enough to derail the stock market. We know this because stocks have rallied as the perceived likelihood of a rate raise has increased in the past few weeks. But market uncertainty about the message being delivered by the Fed is a different thing all together.

At this point, most market participants are banking on a December rate hike as an inevitability. A rate hike is thus largely priced into markets. The question will be, how do they describe their future intentions. If for some reason they don't raise rates, gold could see an epic short covering rally. But my contention at this point is that a rate hike does not imply lower gold prices. It will, ONCE AGAIN, be in the language that is used.

I am not much for giving out gratuitous advice, but I'll make an exception this time. Try to go into the announcement flat if you can. That is my game plan. Over the past two years, I have seen what seemed so obvious NOT work on these announcements and major events. I have personally put on what I thought were well thought out positions into these kinds of events, only to lose a month of hard work in minutes. I know, I am not alone on that one.

One of the reasons the risk is so great right now is the general lack of liquidity that is so pervasive across markets. I will write more on this "fake liquidity" next time, but I have been watching the liquidity dry up in the gold futures and options markets for some time now. It has been getting progressively less and less liquid. Take today in gold for instance. ~4500 lots traded on what was clearly a stop getting run. The seller left 2000 lots (offered on the screen). After a few minutes of futures silence, buyers took the seller out. Then, with the exception of one small blip, there were no orders to be seen. One would think that a 6 year low might interest some participants. It didn't. This is not the first low gold has made of late, nor is it the first time the participation following such a low has been a complete dud. To my mind, a multi year low would be reason for interest to pick up, but the volume is telling us otherwise. Rather than watching futures change hands throughout the day, you are seeing intermittent volume spikes, followed by silence. This is the ultimate sign of illiquidity, or at least, lack of participation. If a size player is caught of guard at an illiquid time, it increases the likelihood of a gap move. If you want to hold positions into the Fed announcement (or any time leading up to it) just keep in mind that getting out may be tough if it doesn't go your way. 

This Friday is the jobs report. As a colleague reminds me, trend changes in gold tend to begin on NFP days, and on Fed announcements. We will see how it plays out, and I will write more following Friday’s action.

Good luck,

Ben