US Fed Rate Cut: Why Gold Prices Can Increase After Jerome Powell's Decision

The US Federal Reserve announced a sixth policy decision for 2024 on Wednesday, September, 18, after a two day Federal Open Market Committee (FOMC) meeting. For the first time in two years, Fed chair Jerome Powell-led rate-setting panel reduced its key interest rate by 50 basis points to 4.75 per cent to 5 per cent.

The Fed maintained the key borrowing rate elevated at 23-year higher for 14 consecutive months since July 2023 to curb the highest inflation in around 40 years.

The Gold prices were hovering near all-time highs on Wednesday. The possibility of a weaker dollar, due to interest rate cuts, has sparked a renewed interest in gold, which performs well as a safe-haven asset in times of currency decline and economic uncertainty.

Spot gold prices in India have surged over 16 per cent this year. While international gold prices have risen over 24 per cent amid expectations of rate cuts, central bank buying, uncertainty over US elections, rising geopolitical turmoil, and investments through exchange-traded funds (ETFs).

How the Fed rate cut will impact Gold prices?

Gold was trading flat at around $2575 on Comex and Rs 73125 on MCX, as the dollar index, after a significant drop, remains steady ahead of the much-anticipated US Fed policy announcement. A 0.25bps rate cut is expected for a while due to lower employment and cooling inflation numbers, making this decision pivotal.

Jateen Trivedi, VP Research Analyst – Commodity and Currency at LKP Securities says while a 0.25 bps cut is largely priced in, short-term profit booking could drive prices down to around Rs 72,500 if there are no surprises in the Fed’s statement.

“However, should the Fed Chair’s comments lean towards a neutral or dovish stance, gold might see a slight positive reaction, pushing it towards Rs 73,500-73,750. If hints of a weak economic outlook emerge, justifying the rate cut, gold could rise significantly, potentially moving above Rs 74,000,” Trivedi said.

A US Fed rate cut usually weakens the dollar, leading to an increase in gold prices as investors shift to safer investments. However, after an initial rally, profit booking could follow as markets digest the full impact of the rate cut, stabilising prices.

Markets are now pricing in a 65 per cent chance of a 50-basis-point rate cut, compared with 34 per cent a week earlier, according to the CME FedWatch tool.

Prathamesh Mallya, DVP- Research, Non-Agri Commodities and Currencies, Angel One Ltd says the real risk is that market pricing is too dovish and that the Fed won’t deliver a dovish 50-bp cut considering that the US Presidential Elections are around the corner.

“This could see yields and the dollar rip higher and weigh further on gold. Apparently, zero-yields bullion tends to be a preferred investment in a lower interest rate environment and during geopolitical turmoil,” he said.

Meanwhile, data released on Tuesday showed that US retail sales unexpectedly rose 0.1 per cent in August, suggesting that the economy remained on solid footing through much of the third quarter. Geopolitical risks stemming from the ongoing conflicts in the Middle East and the protracted Russia-Ukraine war further underpin demand for the traditional safe-haven Gold price.

Hareesh V, Head of Commodities, Geojit Financial Services says the recent economic releases from the US do not suggest a super-sized rate reduction but signs of waning economic activity could push the US central bank to act aggressively to support the economy.

A cut in rate generally tends to support higher gold prices due to factors like low opportunity costs, weaker dollar, inflation concerns and a shift in market sentiment.

“However, actual price behavior may be uncertain and unstable because gold prices​ are subject to factors far beyond the reach of the US Federal Reserve,” Hareesh said.

At present, gold prices in the international market are hovering near their lifetime highs​ due to demand optimism amid surging geopolitical tensions, feeble global growth​ outlook, and hopes of a US rate cut.

When there is a decline in interest rates, the opportunity cost of holding non-interest-yielding assets like gold decreases. A super-sized rate cut may further weaken the​ US currency which is already trading near its weakest level this year. In addition,​ since gold is traditionally viewed as a hedge against inflation, investors' anticipation​ of rising inflation due to lower rates tends to further lift the investment demand and​ thus its prices.