Golden times for gold: What's behind the ongoing rally?

July 21, 2019

3 minute read

On the latest edition of Market Week in Review, Chief Investment Strategist Erik Ristuben and Head of AIS Business Solutions Sophie Antal Gilbert discussed newly-released economic data, recent remarks by Federal Reserve (Fed) Bank of New York President John Williams and the ongoing rally in gold.

U.S. retail sales rise, while industrial production stalls

U.S. economic data released the week of July 15 was mixed, Ristuben said, with strong June retail sales offset by a flatness in industrial production and a tumble in building permits. “Even with really low interest rates, U.S. housing permits fell 6.1% in June—the largest drop in over two years,” he remarked. However, the 0.4% monthly increase in retail sales was encouraging, Ristuben said, as consumer spending makes up roughly 70% of the U.S. economy. “The consumer is clearly the strongest part of the economy right now,” he stated, “as people are well-employed and spending strongly.”

Zooming in on second-quarter earnings season, which kicked off July 15, Ristuben said that expectations for S&P 500® companies are bleak, with industry analysts projecting earnings growth of -3%, year-over-year. “At Russell Investments, we think that the final Q2 number will come in better than this, but coupled with the -0.5% decline in Q1, the first half of 2019 isn’t going to look good from an earnings perspective,” he noted. Companies are having difficulty passing on added costs from tariffs and higher wages to the American consumer, Ristuben explained. “As a business, when your costs increase but you can’t change your prices, you get squeezed—and this puts pressure on earnings,” he explained.

Did the market overreact to New York Fed president’s remarks?

New York Fed President John Williams’ comments at a July 18 talk caused a stir in markets, Ristuben noted, with the probability of a 50-basis point rate cut rising above 50% in the wake of his remarks, per the CME Group. “The whole premise of Williams’ speech was that 20 years of research indicates it’s better for central bankers to take preventative measures in periods of economic distress, rather than wait for a full-on catastrophe to reveal itself first,” he explained.

This is not exactly earth-shattering news, Ristuben said, but markets appeared to potentially misinterpret Williams’ comments as referring to what actions the Fed may take at its upcoming policy meeting. The New York Fed later walked back some of his message, Ristuben noted, explaining that the remarks were rooted in historical context. “A 50-basis point rate cut would potentially send a message to the market that the economic outlook is even worse than it appears, and I don’t think the Fed wants to sound such an alarm right now—chiefly because the real economy isn’t that bad at the moment,” he said.

Ristuben and the team of strategists’ view is that the Fed will cut rates by a quarter-point at its July 30-31 meeting. He also added that the central bank is likely to indicate then that another rate cut may be coming in the fall.

Another golden week for gold

Zeroing in on market sentiment, Ristuben noted that the rally in gold continued the week of July 15, with prices increasing approximately 1.5%. Since the escalation in trade tensions between the U.S. and China in early May, gold has risen roughly 12%, he said.

“Gold can be a nice indicator of sentiment,” Ristuben explained, “because when individuals feel that the economy is in serious trouble, they often develop a preference for gold.” This makes sense given today’s economic backdrop, he noted, with global growth on the downswing and the world’s two largest economies locked in a bitter trade war. The ramifications from this are playing out in businesses across the world, he said, highlighted by a steep drop-off in capital expenditures and very conservative CEO behaviors.

“The market right now is very much at an inflection point, with the equity side confident that the Fed can bail out the economy and extend the longest-running expansion in U.S. history, while the bond market isn’t nearly as confident—nor are the individuals buying gold,” he concluded.