On Monday, the price of gold (XAU/USD) experienced a recovery, reaching the $2,340s, following the release of disappointing US ISM Manufacturing PMI data for May. The greater-than-expected contraction in the manufacturing sector has increased the likelihood of the Federal Reserve (Fed) implementing interest rate cuts as the US economy shows signs of cooling.
According to data from the Institute of Supply Management (ISM), the ISM Manufacturing PMI declined to 48.7 in May, falling below the anticipated 49.6 and the previous month’s reading of 49.2. This data has led to a surge in market-based probabilities of a rate cut by the Fed in September. Prior to the release, the CME FedWatch tool estimated a 55% chance of a September cut, which rose to 59% following the announcement.
The expectation of lower interest rates has a positive impact on gold, as it reduces the opportunity cost of holding the precious metal. Investors find gold more attractive when the returns from interest-bearing assets decrease.
Bart Malek, Head of Commodity Strategy at TD Securities, suggests that gold is likely to receive support during the summer. Investors will assess the likelihood of interest rate adjustments by major central banks while Asian demand remains robust. After a decline from its all-time highs in April, gold has found a floor as speculators have covered their short positions, particularly in response to underwhelming US data, including the recent core PCE reading.
Malek notes that gold finds itself both capped and supported at present. The consistent decline in the Fed’s preferred inflation measure suggests strong support for the gold market throughout the summer. However, given that policymakers will require more evidence that their economic models accurately reflect reality and that interest rates are sufficiently restrictive to control inflation, a significant rally is not anticipated at this time. The movement of gold and investor positioning will heavily depend on incoming data.
Furthermore, gold is bolstered by Asian buying as a hedge against currency depreciation. Notably, Chinese buying has been observed as a countermeasure against the devaluation of the Renminbi, further enhancing gold’s support.
