Understanding Gold’s Upswing: Impact of Fitch Downgrade and High Retail Demand in China

Gold prices continue to rise following Fitch’s downgrade of the nation’s credit rating. After the news came out, the U.S. dollar and Treasury yields began dipping, allowing the precious metal to appear more attractive to investors.

Following the Fitch downgrade, spot gold increased by 0.2% to $1,948.43 per ounce. At the same time, gold futures rose by 0.3% to $1,985.60 per ounce. Since this initial rise, the precious metal gained additional traction following the release of critical CPI data.

The U.S. dollar index and Treasury yields each dropped after the Fitch agency decided to downgrade the U.S. economy’s long-held top triple-A credit rating. Fitch cited numerous factors for the downgrade, including the growing debt burden that nearly led to a default just a few weeks ago and predictions of additional fiscal deterioration to come in the next few years.

A similar event occurred in 2011, when one of Fitch’s competitors, S&P, reduced the rating to AA+. At the time, Fitch only issued a warning.

“Last time S&P downgraded in 2011, the markets went nuts, although we are not seeing the same type of reaction in the early going, but things bear watching,” Edward Meir, a metals analyst and Marex researcher, explained.

Gold gains traction during periods of economic uncertainty as investors seek ways to secure their funds using safe-haven assets. With the U.S. dollar dropping and inflation spiking, people need a stable asset that can withstand economic pressures. Fitch’s downgrade of the U.S. economy acted as a wake-up call, telling investors that they need to prepare for the worst-case scenario: a default or recession.

At the same time, U.S. Federal Reserve committee members still believe they can fight inflation without fully destroying the job market. To achieve this plan, the Fed plans on maintaining high rates for a sustained period. Given how well gold maintained prices during the interest-rate hiking period, we can likely expect modest performance amid rate pauses.

Gold prices have an inverse relationship with rising interest rates. While rates may not drop until 2024, when the time comes, gold may gain the perfect environment for acceleration.

In June, job openings in the United States reached the lowest level in over two years. The plummeting figure didn’t come as a surprise, though, given the recently tight labor market conditions.

July’s factory activity rates also remained low in the U.S., partially impacted by weakness overseas in China. China’s currency regulators are currently urging banks to lower their amount of U.S. dollar purchases or postpone the purchases to lessen the yuan’s depreciation.

With that being said, retail demand for gold in China remains high. During the first quarter of the year, gold jewelry demand levels in China were ″just shy of 200t, the strongest seasonal since 2015,” according to Aakash Doshi’s analysts at Citi.

“We also see a return of physical gold jewelry demand from China and India as both economies stabilize and retail spending returns,” Heng Koon How, UOB’s head of markets strategy, global economics, and markets research, explained when backing his forecast of gold reaching $2,100 by the second quarter of 2024.

“Key driver in our positive outlook for gold is anticipated peak in Fed rate hiking cycle as well as upcoming topping out of U.S. Dollar strength,” Heng explained, while also noting strong central bank demand as an additional driving force.

According to Citi, gold retail demand in China may hit 700 tons this year, totaling a 22% year-on-year increase.

“Whether it’s jewelry, whether it’s bars, whether it’s coins. We have seen a pickup in that,” Randy Smallwood, the CEO of Wheaton Precious Metals, explained when defending his argument for gold reaching $2,500 per ounce within the next couple of years.

With the release of the latest CPI data, the upcoming Fed meeting will likely be the next major price factor in gold’s trajectory. Current market expectations are favoring a rate pause by over 90%, which would bode well for gold. The recent data proved that inflation levels are cooling and consumer prices are improving compared to this time last year, so the Federal Reserve should feel confident letting the current rates remain.

Whether gold will reach predictions like $2,100 or $2,500 per ounce, as outlined above, is still entirely unclear. Much of gold’s performance will depend on if a soft or hard landing occurs following the end of the rate-hiking cycle. For now, traders can assess the incoming data to predict how the Fed may respond and consult their financial advisors for portfolio support.

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