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Abstract: Gold suffered selloff as strong U.S. jobs data raised expectations of an early tapering of economic stimulus by the Fed. While hawkish comments from Fed officials strengthened gold bears, the continued spread of the Delta variant and soaring inflation were likely to remain bullish on gold. When will the Fed tighten its quantitative easing? What will happen to gold prices?

Gold slipped on strong U.S. jobs data. Gold bulls suffered a severe setback on fears of an early tapering of the Fed's bond-buying program as the U.S. unemployment rate fell from 5.9% to 5.4% and payrolls surged by 943,000 in July, both beating expectations. As a result, the metal breached the $1,700 mark and fell as low as $1,680 an ounce, its lowest level in more than four months. Separately, average hourly earnings, which are closely linked to inflation, rose by 4% year on year, higher than market expectations. But the increase in labor wages was mainly in the low-end leisure and hospitality sector, not enough to stoke investors' concerns about rising inflation, so gold's appeal as an inflation hedge has been greatly reduced. While the global economic recovery was overshadowed by the Delta variant and surging prices as supply chain bottlenecks in many economies supported investors seeking safe haven assets, the debate over the Fed’s tapering was at the top of the list as the labor market recovers strongly.

The Fed said it would keep short-term interest rates near zero until the labor market reaches maximum employment, and inflation rises to 2% and is expected to rise above that level for some time. Even as the Delta variant continued to rage in the U.S., many Fed officials are so upbeat about the economic outlook that they have made hawkish voices, and some have even offered a more specific timeline for tapering:

■ Fed Governor Christopher Waller said he could support the Fed announcing a tapering soon if U.S. jobs reports in the next two months show continued gains.

■ Fed Vice Chair Richard Clarida said the central bank would wind down its massive economic support by announcing cuts in bond purchases later this year and raising interest rates by 2023.

■ Dallas Fed President Robert Kaplan said the massive bond-buying program is too risky and the Fed should taper sooner rather than later. 

■  Raphael Bostic, president of the Fed Bank of Atlanta, also said that if U.S. jobs numbers continue to be strong over the next month or two, it would mean that the current economy and employment have made "substantial progress" toward the Fed's goals and that the Fed should therefore consider a new monetary policy stance.

■ Tom Barkin, president of the Fed Bank of Richmond, believes high inflation this year may have met one of the Fed's benchmarks for raising interest rates, but there is still room for the labor market to recover before a rate hike.

While most Fed officials have been hawkish about tightening quantitative easing, Fed Chair Jerome Powell's stance in changing monetary policy is more critical. The annual Jackson Hole Economic Symposium in late August will be the focus of global investors, when the Fed is likely to provide more clarity on its policy stance. The meeting could also be a turning point for the Fed's monetary policy.

In addition, the RBA has begun to tighten its weekly bond purchases. The RBA has had to keep an eye on other central banks, notably the Fed, in order to keep a lid on the Australian dollar's rise, even as the country's economic recovery has been hampered by the Delta variant. Not only that, but the BOE has also expressed concern about higher UK inflation in its recent monetary statements, and the hawkish tone has begun to prevail.

1. The Fed's tightening of quantitative easing is partly a sign that the U.S. economy is performing strongly so that investors may not need gold to hedge the market risk. At the same time, the shift means the Fed is aggressively tackling rising inflation, making gold less attractive as a hedge against inflation.

2. A Fed rate hike would push Treasury yields higher, sending risk averse investors into the U.S. Treasury market. This seemed to be confirmed by the recent plunge in gold prices, which came after strong U.S. jobs data fueled speculation of an early rate rise by the Fed, bringing long-term Treasury yields to their highest in two weeks. 

3. The tightening of quantitative easing could push up the dollar and therefore weigh on gold. While gold's stellar performance last year was largely dependent on a weaker dollar as a result of the Fed's "quantitative easing" policy, this year's gold price has been largely constrained by the dollar's rebound and the Fed's hawkish tone. Hence, the dollar could see a brief upswing if the Fed withdraws its easing. But it's worth noting that the U.S. Senate passed a $550bn infrastructure plan, which could limit the dollar's gains.

Gold fell as low as $1,758 an ounce after the strong July non-farm payrolls data, ending a two-week run of trading around $1,800 an ounce. Yet market jitters extended into Asian stocks on August 9, when gold price plunged by $60 in more than ten minutes to hit a low of $1,680 an ounce, its lowest level since March. Then gold price was back to 1750 as the U.S. consumer price increases slow, indicating the inflation may have peaked. As shown below:

Source from: Mitrade

Despite the prevailing bearish sentiment, gold rebounded on the $1,677 support level, the lowest point at which the metal fell when Treasury yields spiked in March. Technically, a “death cross” occurred as gold's 100-day moving average line fell under the 20-day line, which means that gold may face further downside risk. The relative strength index (RSI) showed gold begins to get rid of an oversold territory, indicating that the weakness of gold bulls is eased, even though the market is still dominated by bears. Should gold break further below the $1,677 support, the next support looks to $1,670, the low before the new all-time high. Moreover, the Bollinger Band is going from contraction to expansion, so the gold market is set for more volatility.

In all, the spread of the Delta variant and higher inflation could be a bullish case for many investors, while gold has been battered by growing expectations of an early tapering by the Fed. As a result, long and short factors intertwined, possibly making the gold market more volatile. In the short term, investors should be wary of the impact of economic data on gold, while taking advantage of market volatility as a trading opportunity.