Around the first of February 2018, Fed comments suggested at least three and probably four rate hikes of 1/4% for the year. The $US dollar index ($DXY) recently hit multi-year lows. One of the reasons the stock market has soared the last year is that, with Fed rates near 0% for so long, there are few other places to put money. The normal correlation between interest rates and the stock market is an inverse one. As interest rates rise, bond and other investments are competing more for funds with the stocks, so the tendency is for the stocks market’s advance is to moderate in the face of high rates.Changes in the federal funds rate will always affect the U.S. dollar. When the Federal Reserve increases the federal funds rate, it normally reduces inflationary pressure and works to appreciate the dollar. The Fed professes that an inflation rate of about 2% for the $US is ‘healthy.’ At least in
theory, the goal is to create a healthy economy, have inflation around 2%, and target a reasonable growth rate for the domestic economy. In a ‘slow or declining’ economy, the Fed will lower rates — and when the economy is growing, there is a governing action of raising rates to prevent high inflation.
As an investor, I often short options on gold futures, so a keen awareness of the relationships between interest rates, the strength of the $US is necessary. The chart (below) displays the strong inverse relationship between Gold futures prices and the US Dollar Index.
The left axis and the red line represent gold futures prices, basis the JUN18 contract.
If you trade grain futures and options, you have seen many times how a reduction in $US strength will cause grain prices to rise; this is because as the US Dollar decreases in value, the foreign currency of grain buyers becomes more valuable, which effectively makes grains cheaper and purchases for these buyers are more attractive.
In the months ahead in calendar 2018, the rate hikes will slow the US dollars decline and most likely spur a higher value for the US dollar. In turn, this will probably not result in higher gold prices over the next six to twelve months. Some analysts are expecting gold to find support around $1300. Over the last six months, I have sold 1500-strike gold CALL options. Given the scenario described in this article, that could be a high enough strike to collect some premium by shorting CALL options.
There are often commodity option trades than can be ‘repeated’, that is selling the same or similar strikes in various futures months stretched over the next six months to a year. There is an article about this at: LINK HERE
In planning ahead, it is always helpful to understand such price correlations, and then as time progresses to select the strikes and time periods for option trades. Be advised that many factors other than just interest rates can influence gold prices. I am suggesting that the recent announcements by the Fed of pending rate hikes may indicate the timing for selling gold CALL options could be favorable sooner rather than later.
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