Sometimes, some news or event happens, and it totally scrambles the psyche of investors. This seems to be the case following the recent CPI report which came in stronger than expectations and nullified the hopeful hypothesis that inflation was peaking.
It's also bad news for stocks and bonds. Stocks tend to underperform in often dramatic fashion when you have the combination of slowing economic growth and a tighter Federal Reserve. Bonds also do poorly in an environment of high inflation and rising rates.
With the two largest asset classes likely to continue disappointing investors, it makes sense that precious metals could be one source of positive returns.
For one, if we look at this specific circumstance of high and rising inflation coupled with an economy that is rapidly slowing, it's historically correlated to strong gold (NYSE: GLD) outperformance. And, this is somewhat surprising to many market participants as they naturally assume that gold prices decline when the Fed is raising rates.
This is certainly true in most environments of rising rates, however, it's not true in special circumstances like we have today. These circumstances have only taken place in a handful of instances over the past century with the last time being the second half of 2018 when the Fed embarked on a hiking cycle, despite signs of the economy being weak and rolling over.
And, there are some useful lessons that can be derived from this experience as there are some eerie parallels. These include gold prices remaining range-bound throughout the hiking cycle which is a departure from normal behavior especially, because, gold had enjoyed strong gains during the rate cut cycle.
And, we are seeing the same action. Gold has remained range-bound while the Fed raises rates. Ironically, gold seems to be trading in anticipation of the Fed. For instance, it peaked in October 2020 when inflation was rising and the Fed had yet to even pivot in terms of rhetoric and instead was calling inflation 'transitory'. At the time, it was mystifying. In hindsight, it could be interpreted as gold anticipating the turn in Fed policy even months in advance.
Something similar is quite probable. Gold is starting to find a bid and inch higher. If this analog holds, then gold is essentially going to be trending higher in anticipation of a Fed pivot as the economy softens. And, once the Fed does pivot, it's likely to climb to new, all-time highs.