Gold takes cautious tone ahead of Fed announcement

After climbing 2.3% last week, gold futures traded down by 0.3% this week as of Tuesday. The initial market rally fizzled out quickly despite the fact that the Greek re-elections produced a pro-bailout and pro-Euro outcome, as investors turned their attention to the rising borrowing costs in Spain and Italy. The Spanish banking woes caused the 10-year Spanish Government Bond yield to rise 28bp to 7.16%, the EUD/USD to fall 0.5%, and the Stoxx to drop 1.17% on Monday. The yield on the one-year Spanish T-bill yield surged to 5.074% at the Tuesday auction, a rise of 210 bp since the last auction on May 14.

Risky assets rallied on Tuesday after the European leaders at the G-20 Summit have indicated that they could relax the bailout terms for Greece, and would continue to focus on resolving the European banking problems to lower borrowing costs. The market is also expecting that the U.S. Fed may announce more easing measures at the end of the FOMC meeting on Wednesday because of softer U.S. economic growth, a low inflation rate at below 2% and the European crisis dampening the U.S. growth prospects.

Gold futures may have somewhat priced in further quantitative easing by the Fed, as prices have increased for six consecutive days since June 8. The more co-operative tone from the European leaders, and the rally in Spanish bonds on Tuesday may have also caused the safe-haven bids for gold to retreat, according to Bloomberg.

In India, gold futures reached a historic high at 30,311 Rupees per 10 grams on Monday as the Rupee continued to stay weak while the gold prices have recovered. Rising prices have dampened gold demand. About 60% to 70% of gold sales come from rural India. A delayed and smaller than normal monsoon would mean a poorer harvest which could hit Indian gold demand further, resulting in an expected total gold imports of 650 tonnes compared to 969 tonnes in 2011. So far in June, rain deficit has reached 41%.

The falling volatility of gold since last Thursday may signal that gold traders are more cautious in front of the FOMC meeting, and are more prepared for disappointment. For now, gold price direction is overwhelmingly dictated by central banks' monetary policy decisions, and the tensions in Europe.

About the Author
Austin Kiddle

Austin Kiddle is a director of the London-based gold broker Sharps Pixley Ltd.

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