It is clear that the Federal Reserve has not won the battle against inflation. With the CPI rising for four consecutive months, markets do not anticipate another interest rate cut until September.
Isn't an environment of “higher for longer” interest rates bearish for gold?
The short answer is no, because real interest rates are falling as price inflation rises.
Why do higher interest rates create headwinds for gold?
Gold is a “no-yield” asset, meaning it does not generate interest income or dividends. Its value is determined by price appreciation. The prevailing view is that investors turn to bonds and other yield-bearing assets in a higher interest rate environment, creating headwinds for gold.
We saw this phenomenon unfold when the Federal Reserve raised rates to combat price inflation a couple of years ago. Every time we had bad inflation data, gold was sold off in anticipation of further rate hikes.
But when January CPI data came in higher than expected last week, the drop in the price of gold was short-lived and it quickly recovered to $2,900. It seems that at least some investors have realized that inflation is not going away and they need gold as an inflation hedge despite the higher interest rate environment.
Real interest rates are falling
There is another factor at play: with rising price inflation, real interest rates are falling, even as the Federal Reserve suspends rate cuts.
The real interest rate is simply the rate you see in the news adjusted for price inflation.