U.S. Dollar has the largest single-week drop this year propping gold higher

The U.S. dollar just had its largest weekly drop in 2022. On Monday the dollar index opened at approximately 111.034 and as of 3:23 PM, EST is currently fixed and closed at 106.275. In a single week, the U.S. dollar index lost 4.824 points which is a percentage decline of - 4.286%.

During the same week gold futures basis, the most active December 2022 contract opened at $1678.40 and as of 3:23 PM, EST is currently fixed at $1769.80 which is a net gain of $91.40 or a net gain of + 5.445%.

This means that dollar weakness this week accounted for 78.15% of gains seen in gold, and the remaining 21.285% is directly attributable to market participants bidding the precious metal higher. In other words, dollar weakness was the driving force behind gold’s recent rally and accounted for approximately 4/5 of gains realized in gold futures this week.

What caused the U.S. dollar to drop so much this week

The dollar index was created in 1973 to assess the value of the U.S. dollar against other major world currencies. The dollar index is weighed against a basket of six foreign currencies with different weights given to each currency. The six foreign currencies used to assess the value of the dollar index are; the Euro - 58%, Japanese yen - 14%, British pound - 12%, Canadian dollar - 9%, Swedish krona - 4%, and Swiss franc - 4% weight.

One component which drives value changes in the U.S. dollar is the yield from the purchase of United States Treasuries. The U.S. dollar is very sensitive to the yields of U.S. debt instruments such as Treasuries like the 30-year bond or 10-year note. As the yield climbs on U.S. bonds and notes it attracts foreign investments into those fixed assets that have favorable yields, which require dollars to purchase thereby raising the value of the dollar index. Reciprocally when yields on U.S. bonds and notes fall it causes the reverse as the dollar loses value as foreign investors reallocate investments in U.S. debt instruments to other fixed assets offering favorable yields.

This week the BLS reported that the CPI index for October increased by only 7.7% year-over-year. This was the lowest value of the consumer price index since January of this year when the CPI came in at 7.5%. The table above is from Cpiinflationcalculator.com and clearly shows that October’s inflation level was one of three months this year that came in under 8%. The average annual inflation rate for 2022 is currently at 8.38% year-over-year.

In January 2022 inflation was at 7.5 year-over-year. Inflation would rise to 8.5% year-over-year in March when the Federal Reserve stepped in and began its first interest rate hike since 2018 of 25 basis points. However, inflation continued to spiral higher and peaked in June at 9.1% year-over-year. From July through August inflation as measured through the consumer price index slowly declined.

During the last week of September, the dollar index hit its highest value this year at approximately 114.793. Since then, the dollar has lost tremendous value as market sentiment began to shift under the assumption that the Federal Reserve would slow its aggressive rate hikes as they were now having an impact on taking inflation lower.

Wishing you as always good trading,