How Will Gold React to a Tightening Cycle? | ETF Trends

The Federal Reserve is raising rates to reign in record inflation, leaving many gold investors to wonder what this means for gold. Historically, gold thrives in an inflation or stagflation environment. However, some experts, such as MKS PAM metals strategist Nicky Shiels, see two courses for the yellow metal depending on Fed action.

“As the markets continue to digest whether a 50/50/50x hiking profile (vs. 50/75/50x over the next few meets) is actually enough to tame inflation, induce a recession etc., it’s worthwhile to take a step back and assess just what Gold did during past slow and fast Fed hiking cycles. There is a lot of asymmetrical risk depending on whether the Fed hikes quickly (as seen in years 1980/1987/1994) or slowly (years 2016/2004/1999/1977),” Shiels said to Kitco.

Shiels noted that a “fast” hiking Fed could trigger a downward trend in gold prices, defining a fast hiking cycle as one where the Fed raises rates by more 50bps initially and then exceeds 300bps in the first year. On the other hand, Shiels predicted tremendous upside for gold in a slow Fed hiking cycle.

“A slow Fed hiking cycle is very bullish gold (especially after 1year). Gold hardly falls below levels once the Fed starts on a slow hiking path (the max average drawdown is -2%). On average, 5years on its up 115%, which in today’s terms is equivalent to gold over $4,000 in 2027,” Shiels said. “Slow hiking cycle is one with incremental 25bp hikes, smaller total no. of hikes within the 1st year and/or relatively lower terminal funds rate.”

The Fed will be leaving clues as to whether this cycle is slow or fast, and traders can look at market expectations around real rates to unearth these clues. Much will also depend on the outcome that the U.S. central bank wants to achieve. If it wants to tame inflation, a slow hiking cycle is going to be in the cards. If it wants to kill it, it’ll be a fast cycle.

One positive sign is gold’s continued strength despite a rough couple of weeks. Shiels noted, “Gold is now down three weeks in a row, the longest run of losses since December as the bear market in bonds (and equities) continues driving a rally in nominal and real yields. However, the extent of golds declines … is getting shallower, especially in the face of such large repricing in yields, which is an early sign of being constructive; if this really was a bear market, gold should be well below $1,850, and it isn’t.”

Investors may want to increase their exposure to gold in these rocky times. The Sprott Physical Gold Trust (PHYS) offers direct exposure to the yellow metal. For a gold equities play, investors can look at the Sprott Gold Miners ETF (SGDM) or the Sprott Junior Gold Miners ETF (SGDJ).

For more news, information, and strategy, visit the Gold & Silver Investing Channel.