Gold outlook: inflation data takes centre stage as metal consolidates

Gold prices edged higher in the afternoon trade, although looked a little vulnerable following last week’s drop. Last week’s drop was driven in part by profit-taking and some stronger US data that was released at the back end of the week, which supported bond yields. We had some more forecast-beating US data today as consumer confidence unexpectedly rose and topped all forecasts. This week’s key data, though, is the core PCE price index, due on Friday. Ahead of it, gold may remain in a consolidation phase. Whether we see further short-term weakness following last week’s 3% drop doesn't significantly alter the long-term bullish gold outlook.

Why did gold fall last week?

After a strong performance in recent months, a pullback and some sideways movements should be expected in strong uptrends. In other words, gold’s drop last week was driven mainly by profit-taking. The metal ended the week lower, even though it managed to rebound from its lows on Friday, before adding modest further gains at the start of this week. Last week’s drop came after the metal briefly exceeded April’s all-time high, but without sustaining a close above it. That gave investors an excuse to lock in gains following strong performance in recent months.

Gold outlook: Focus shifts to inflation data

This week, the focus shifts to key inflation data from the US and Eurozone, which could influence the timing of the first interest rate cuts by the ECB and Fed. German CPI is due out on Tuesday, ahead of the Eurozone CPI and US core PCE both on Friday. Rate cut expectations have been pushed back due to unexpectedly strong Eurozone wage growth and robust US business activity, including a significant increase in services inflation. However, on Friday, the University of Michigan's revised inflation expectations survey indicated a decrease in 1-year inflation to 3.3% from the previously reported 3.5%. This put pressure on the dollar, offering some support for dollar-denominated metals. Today, though, the CB Consumer Confidence Index easy topped forecasts with a print of 102.0 vs. 96.0 eyed and 97.5 last.

Until the inflation data from the US is released on Friday, the dollar, and by extension, gold, may remain in a holding pattern. Stagflation concerns are rising in the US, with price pressures remaining higher and incoming data mostly surprising negatively of late, which does not bode well for the economy. The PCE data could impact the timing of the first rate cut, currently expected well after the summer.

Gold outlook: Technical analysis and factors to watch

Ignoring price action over the last coupe of sessions, gold’s weekly charts hints at a potential reversal. That said, similar reversal-looking price action in the past have turned out to be bear traps. Will this be yet another such example?

Source: TradingView.com

Last week, the gold chart formed a bearish engulfing candle on its weekly chart after failing to sustain a break above April's high of $2431. The metal reached a new all-time high of $2450 before closing the week down by over 3%, finding short-term support around $2330. The critical question now is whether this will lead to further downside. A decisive break below the $2330 support could trigger stop-loss orders and potentially result in a significant drop. Additionally, the relative strength index (RSI) is showing negative divergence (it made a lower high while gold formed a higher high), indicating weakening momentum.

However, recent months have seen several instances of bearish-looking price action that ultimately turned out to be bear traps, and this situation might follow that pattern. For instance, consider the previous bearish engulfing candle formed in December when gold also failed to hold a new all-time high (circled on the weekly chart). After that candle, gold experienced only modest follow-up selling before the dip was bought just below $2,000, leading to the substantial rally observed in the past few months.

Source: TradingView.com

The loss of bullish momentum is also apparent on the daily timeframe, with gold breaking a short-term bullish trend line and dropping below the 21-day exponential moving average. It has also fallen below support at around $2375, which may now act as resistance upon a potential retest from underneath.

However, gold has yet to make a distinct lower low, with the most recent low around $2277. If this level is breached, it would confirm a reversal. Until that happens, last week’s bearish price action should be viewed with some caution. For indeed, if gold were to rise back above the broken $2375 level, it could trigger a sharp short-squeeze rally to a new all-time high.

In summary, while last week’s bearish price action is noteworthy, it is not a game-changer for gold. It is important to remain alert for potential bear traps, which could present good long trade opportunities within what remains a healthy bullish trend.

-- Written by Fawad Razaqzada, Market Analyst

Follow Fawad on Twitter @Trader_F_R