For nearly three years, gold bulls have been waiting… and waiting…
The metal should have delivered hefty returns. But investors never got what they expected.
The reason for that expectation is obvious… Forty-year-high inflation should help a precious metal that’s considered an inflation hedge. But it didn’t.
From the onset of the pandemic in February 2020 until November 2022, gold barely budged… dropping about 1%.
But as I will explain today, that is all set to change if one thing happens. This is one of the only things that really matters for gold. And understanding it can ensure you are part of gold’s first significant returns of this decade…
Why is gold set up for a bull run?
The answer lies in the high correlation between the U.S. dollar and gold prices.
Correlation essentially means how closely two assets’ returns mirror one other. A negative correlation is when two assets move in opposite directions at the same time. And the dollar and gold have a negative correlation…
In simple terms, inflation isn’t what really matters for gold. Instead, the dollar is what you need to be watching.
The U.S. Dollar Index had been steadily rising since 2021. In November 2022, though, that long-term trend officially reversed. It began a 10% decline that lasted through February 1.
The dollar rallied a bit over the past month, but it was short-lived… And this fall in the dollar is exactly what gold investors needed.
You can look at a chart like the one below and see the negative correlation between the dollar and gold going back to 2006. Look at the way that gold and the U.S. Dollar Index often make simultaneous, but inverse moves…
This chart clearly shows a negative correlation over a long time frame. And it means that if we want to know where gold is headed, we need to understand the dollar.
So, let’s take a long-term look at the U.S. dollar…
Federal Reserve Chair Jerome Powell recently stated that it may take more rate hikes than anticipated to tame inflation. While this may be the case, we’re much closer to the end of this rate-hiking cycle than the beginning.
Rate hikes tend to strengthen the dollar, while rate cuts hurt the dollar’s value relative to other assets. So if interest rates peak and then start to decline again, it means we can expect a falling dollar.
Also, think about the context…
In Europe, inflation is even higher than in the U.S., and rates are slightly lower. That means the European Central Bank has more room to hike rates. This could strengthen currencies abroad while the dollar at least remains steady… which would also weaken the dollar’s relative value.
And it’s looking more and more likely that the dollar will level off at best, rather than grow stronger from here. After the disastrous collapse of Silicon Valley Bank and Signature Bank, many are saying the Fed rate hikes may be finished.
All of this supports the case for a weaker dollar. And as we now know, a weaker dollar is a strong sign that gold should rally.
The metal is up 10% in less than a few weeks. But this is just the beginning. As the dollar falls, gold will rise. And that trend is just beginning.
Good investing,
Matthew Poltorak
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Source: Daily Wealth