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Gold was oversold this week after prices tumbled below $1,800 on Thursday. And even though analysts remain firmly bullish on gold next week, there is still a risk of another washout below $1,700.
The reason for the end-of-the-week selling pressure was the stronger U.S. dollar and steepening yield curves, according to analysts. The downward move was further exacerbated by technical selling, said Rhona O'Connell, head of market analysis for EMEA and Asia regions at StoneX.
"Once again, the tangible driver was the dollar, encapsulating a series of encouraging economic and financial developments. The yield curve has continued to steepen," O'Connell said. "Gold dropped to below $1,800, and the move would have been extended by technical and momentum trading."
A big part of the move resulted from technical action called the Death Cross, which happens when the 50-day moving average is close to crossing below the 200-day average. "If this does come about, then the technical pressure on the spot price will be exacerbated," added O'Connell.
The U.S. dollar is likely to remain one of the primary drivers for gold in the short-term, said Kitco Metals global trading director Peter Hug.
"Over the past two days, we had relatively significant dollar strength. The euro dropped about 2% this week, in-line with gold's drop of approximately $40 on Thursday. Gold seems to be trading with the dollar," Hug stated.
The rise in 10-year yields is also adding to U.S. dollar strength, as more inflows are going into the greenback.
Another piece of the puzzle was the silver squeeze phenomenon, which ultimately impacted gold as well, said RJO Futures Senior commodities broker Daniel Pavilonis. "Gold responded to silver first by going up and then selling off," said Pavilonis.
Next week's likely outcome is more bargain hunters coming into the market at a better price, said Hug.
Right now, gold is in a bearish-neutral territory, said Pavilonis. "We will see a bounce here."
The stimulus package will also eventually play a significant role for gold. It has already been set up in a way that the Republican support is not needed, said Hug.
"Stimulus won't go into the economy until mid-March, but it is coming. It is still a very constructive metals market. Plus, there are issues with the pandemic, like the new virus strains. All of this means that central banks and governments will be fiscally accommodative. This is a recipe for positive momentum in the metals," he said.
Stimulus headlines have been driving the gold market up and down. This turbulence will continue until the actual stimulus comes out, which is when gold will finally move solidly higher, explained Pavilonis.
More stimulus will likely mean that the U.S. dollar will be further devalued and gold will receive more support, said Phoenix Futures and Options president Kevin Grady.
The macro-environment remains supportive for gold, reminded TD Securities head of global strategy Bart Melek.
"At the end of the day, there is still a big problem with the economy. Today, we've seen the third month of disappointing economic data, and we are at risk of a double-dip. Markets are not focusing on this yet, but they will," Melek said. "We will continue to have massive debt accumulation. The hope that economy will go gangbusters sounds like a flat argument to me."
The bad economic data Melek referred to was the U.S. employment report from January, which showed that only 49,000 jobs were added.
Price levels
Gold's solid support is between the $1,775-80 range, noted Hug. First resistance is at $1,822-25, then $1,850, followed by $1,900.
Thursday's lows offer good support levels, added Grady. On the upside, gold will have to break the resistance at $1,850.
Gold is "heavily oversold," said O'Connell. "Resistance is clustered around the four major averages between $1,837 and $1,854.
Danger zone
The risk of another washout in gold is still there, which could take prices below $1,600 an ounce and quickly, analysts warned. And even though it is an unlikely scenario, if prices close below $1,766, it is a possible one, said Pavilonis.
"If we close below that, it is an area where we could see a washout to below $1,600 again," he said. On the other hand, once we close above $1,970, then "it is a bull market" once again.
There is still a risk of gold losing another $100 on technical selling, warned Melek, but noted that it would be an unlikely drop. "Don't think it will happen. I still like the $2,000 gold target," he said.
Hug added that he would be surprised if the next major wave in gold would be down. "I expect it to be higher," he said.
Data to watch
Next week will be a light data week, with the U.S. inflation data scheduled for Wednesday and jobless claims on Thursday.
"In the U.S., inflation is becoming a prominent theme for financial markets with a growing suspicion that its rise could be larger and longer-lasting than the Federal Reserve is currentlyanticipating," said ING economists. "In terms of next week, we look for CPI to rise 0.4% month-on-month, primarily on the back of a 10% increase in gasoline prices … This would push the annual rate of CPI up to 1.6%."
By Anna Golubova
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