The US dollar is enjoying some respite from the constant selling seen during July with the gold rally temporarily stalling, which offers up and excuse to stop selling the buck.

But, when it comes to FX trading, calamity is rarely apparent. Still, much of the latest gold surge has been viewed as the mirror to USD weakness.

Gold volumes stood out yesterday, but a clear sign that the gold moves have been an essential driver of the broader US dollar price action of late was when XAUUSD quickly corrected to US$1934 shortly after a headline indicating China’s H1 gold consumption fell 38% which took EURUSD down to 1.1720.

And when gold futures toss aside its inverse correlation to yields which the yellow metal has been tied at the hip for the past 18 months, then causality is never clear.

The market turned completely discombobulated yesterday due to silver that traded in a 15 % range. Stops on the topside seem to have been triggered during the Asia session.

In a similar but perplexing fashion, stops to the downside were triggered as London came in.

Silver also on the run

Oddly enough yesterday, bullion markets looked to be getting dragged around by a golden nose ring from its sibling silver with the pick-up in realised volatility, possibly indicating extended long fast money positioning.

Keep the seat belt fastened as there could be a further risk of more whippy corrections ahead of month-end re-allocation flows, as gold is up more than 9 per cent on the month, while US equities are closer to +3.5 – 4 per cent up.

But despite the heightened volatility, price action on gold has been reasonably constructive overnight as the yellow metal continues to be a universally favoured alternative asset to position for a weaker US dollar.

This year’s rally in gold had been, to no small extent, a real-yield trade, and as real yields fell, gold rose. This week’s surge to record highs saw gold divorced from that relationship with real yields. The recent rally in gold made it look very much out of lockstep but there is nothing to stop the rally continuing.

Keep an eye on the US Fed

The most valid concerns see the US Federal Reserve shift towards an inflationary bias as Chair Powell and crew are stuck with the unenviable task of driving inflation expectation higher to avoid the downward de-anchoring experienced by the European Central Bank (ECB).

Vice-Chair Clarida warned a few weeks ago that inflation expectations were at the bottom of the range consistent with a 2 per cent target. Governor Brainard noted a couple of weeks ago it was time to switch policy from emergency support to accommodation.

One real possibility is that the Feds put the pedal to the metal this week. And even front running the outcome of the framework review while slashing its estimate of long-term neutral rates to less than 2% and setting in motion an average inflation target with an unyielding commitment to its achievement.

But when extremely dovish Fed policy expectations get juxtaposed against rising geopolitical tensions, elevated US domestic political and social discord, and a growing second wave of Covid-19 related infections, it beckons the need for gold as an ultimate hedge.

But when combined with a record level of debt build-up by the US government, real concerns about the US dollar’s durability as a reserve currency have become very visible. It screams gold as the ultimate hedge.

International markets analysis and insights from Stephen Innes, Chief Global Market Strategist at AxiCorp