Janet Yellens Friday speech at the start of the Federal Reserves central bank symposium in Jackson Hole, Wyoming was eagerly anticipated but delivered little in the way of surprises to the markets. The case for Fed rate hikes appears to have strengthened, the Fed chairwoman said in her remarks, thanks to evidence of a continuing recovery in the U.S. economy.
But the timing of rate hikes would remain uncertain and dependent on what future data reports about the economysentiments that arent much different from other statements the Fed has made in recent months.
It was left to Fed vice chair Stanley Fischer to grab the markets attentiona September rate hike is definitely on the table, he said during a CNBC interview later on Friday. A second hike before the end of the year is possible as well.
Markets took Yellens speech in stride, but changed course after Fischers remarks on CNBC. U.S. stocks relinquished earlier gains and the dollar found strength. Gold prices spiked after Yellen spoke, but settled somewhat later in the day as the dollar rose in value.
Expectations are now higher for a Fed rate hike before the end of the year. As of Monday, August 29, markets placed odds of just 30% on a quarter-point move at the next Fed meeting on September 21, according to data from CME Group. But a majority of investors see rates rising by at least a quarter-point before year-end.
What can gold investors take away from the Feds remarks during last weekends conference? First, the Feds reassurance to the markets about their ability to fight future economic weakness seems anything but reassuring. For example, consider the market reaction to Janets fan chart. (See below.)
On one hand, you may see in this chart that the Fed really has no idea what the economy will look like in the future. Given the range of possible extremes, the economy may run red-hot or turn cold as ice in the next two years.
On the other hand, the chart seems to say the Fed is leaving the door open to any and every potential action in the futurefrom rate hikes to over 4% by 2018, to a retreat to near-zero rates at this time next year.
Plus, theres only a confidence level of 70% that these projections will actually be realized. That means the Fed is giving itself around a 1 in 3 chance of getting this all wrong. Perhaps thats smart on the Feds part, recognizing that we now live in a world where outliers and black swans are likely to emerge and make fools of all market prognosticators.
Second, the Fed needs to raise rates to help restock its arsenal for fighting future recessions. But the unconventional measures adopted by the Fed in the wake of 2008s financial crisisasset purchases through programs of quantitative easingseem to be part of the conventional playbook now.
These accommodative central bank policiesfrom zero and negative interest rates (ZIRP and NIRP) to quantitative easingare blamed for encouraging excessive risk taking and inflating asset prices in global markets. In reasserting their use of these policies, the Fed appears to be all-in for keeping the bubble inflated.
What are the consequences for continuing these policies? Among many possibilities, one likelihood is for financial markets to remain risky and unstable, as long as the Fed is willing to prop them up with easy money. Future market shockswhether from the next Brexit or a currency devaluation from a major emerging market like Chinawill rattle investors and create more volatility. Money that pumped up risky assets such as stocks will likely escape into the relative safe havens of hard assets, gold included.
Also, consider the implications of keeping interest rates so low for so long. For savers and fixed income investors, this low yield environment has been brutal. Markets may scorn or stare in disbelief at negative interest rate policies around the worlds, and Fed officials can pronounce negative yields are something that will never happen here, but U.S. savers have been coping with negative real interest rates for some time.
This situation cannot go on forever. And when something cant go on forever, it wont. Some yield-hungry investors will go looking for returns in stocks and high-yield bonds. Others looking to preserve the value of their wealth will put some of it toward gold.
The Fed will continue to seek to stabilize financial markets and normalize its monetary policy. But they wont be able to flush out all of the uncertainty currently plaguing the financial markets.
Gold investors can expect the usual short-term volatility as the Fed struggles to find its way. But over the long-term, market instability is likely to help gold prices to remain resilient and potentially rise in times of market stress.