Oil prices have fallen but gold hasn't risen; the market is starting to worry about a new problem.

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Falling oil prices should have been positive for gold, but this time gold did not rise—the market is digesting a trickier new logic.

According to information from the Wind Chasing Trading Desk, on May 29, Deutsche Bank Singapore released a precious metals research report. Analyst Michael Hsueh pointed out in the report that gold is facing a new issue different from before: the drivers of inflation are more diversified, while global monetary policy is being tightened synchronously. The combination suppresses gold’s traditional safe-haven logic.

In the past ten days, the front-month Brent crude contract fell below $100/barrel, but gold did not rebound as oil prices dropped. Instead, it continued its downward trend that began in mid-May from a high of about $4700/ounce. Meanwhile, the ETF and futures markets together saw about 1.6 million troy ounces of net selling (including around 400,000 ounces from ETFs and 1.2 million ounces net selling in futures).

The analyst pointed out: “The new issue for gold lies in stubborn inflation appearing together with monetary policy insisting on controlling inflation.”

Real interest rates are the key variable

Why did gold not rise when oil prices fell? The analyst provided two key data points.

First, the correlation between U.S. 10-year nominal and real interest rates and forward oil futures (such as the December 2026 contract) is much higher than the correlation with near-month contracts—the coefficient of determination (R²) for forward contracts is as high as 77%, whereas for near-month contracts it’s only 51%. This shows that the market is more concerned about the possibility of “persistently high energy prices” in the long term, rather than short-term oil price fluctuations.

Second, the 10-year real yield is highly linked to the rate pricing for the Federal Reserve's December policy meeting. The rise in real interest rates directly suppresses the fair financial value of gold.

Since the beginning of this year, real interest rates have been repriced by 48 basis points. The analyst cautions not to extrapolate this trend linearly—back in 2022, real rates were repriced by as much as 270 basis points, but at the time official gold demand (i.e., central bank gold purchases) saw a substantial increase of 716 tons (comparing H2 2022 to H2 2021), effectively hedging the pressure from rising rates.

Bond market sell-off is a global phenomenon

This round of bond market stress is not unique to the United States.

Following the 10-year U.S. Treasury yield breaking above 4.5%, sustained selling has become serious enough to be added as a topic for discussion at the G7 finance ministers meeting on May 18-19. According to Japan’s Finance Minister Katayama, the U.S., U.K., and Japan’s markets saw “overlapping effects,” with the 10-year government bond yields in all three countries rising by 21, 24, and 23 basis points, respectively, within the same week.

Japan: The market is concerned that Japan needs to add to its budget (including energy subsidies), but the government had previously “repeatedly denied the necessity for an additional budget.” Subsequently, Prime Minister Sanae Takachi stated an additional budget “does not necessarily require large-scale bond issuance,” and Japan Post Bank’s CEO also said they would continue to increase holdings of Japanese government bonds, easing market sentiment.

United Kingdom: In early May, Labour Party lost the local elections, the market worries Prime Minister Starmer may face internal party challenges, and a new leader could implement more fiscal easing and expand debt issuance. The subsequently released U.K. April fiscal deficit data exceeded expectations, further intensifying selling pressure on the U.K. government bonds (Gilt).

United States: Strategists believe, “A series of shocks have driven real rates too low, making it difficult to push inflation back to 2%,” and are currently maintaining a short position in 10-year U.S. Treasuries, with an upside risk target of 4.65%, and believe that seeing the 10-year yield touch 5% is not impossible (corresponding to a term premium of 135 basis points).

Potential turning point: New Fed Chair Warsh’s stance

Gold's recent predicament is partly due to the nearing end of the U.S.-Iran war, the gradual resumption of commercial passage through the Strait of Hormuz, but the inflationary pressures left in the aftermath of war may keep real rates high.

However, the analyst also pointed out a potentially positive factor for gold: the soon-to-be-inaugurated Fed Chair, Kevin Warsh, who will preside over his first FOMC meeting June 17-18.

In November last year, Warsh stated clearly in a Wall Street Journal column: the Fed should abandon stagflation forecasts, believes AI will become a significant disinflationary force via improved productivity, and supports both reducing the Fed’s balance sheet and lowering policy rates at the same time.

If Warsh can shift the overall stance of the FOMC from the slightly hawkish tone of mid-May to a more obvious dovishness, it could, without changing the basic expectation of “keeping rates near neutral indefinitely,” significantly change the market’s expectations for the rate path, thereby boosting ETF gold investment demand.

Yet this expectation faces clear opposing pressure. Current market pricing shows the probability of a Fed rate hike before December is already 58%. St. Louis Fed President Musalem recently warned that the Fed’s policy rates are still below neutral, and it is unlikely the U.S. is entering a phase of high productivity growth. The ECB’s April meeting minutes also show that “the approach of ‘looking through’ inflation without taking any monetary policy action is becoming increasingly inappropriate.”

Demand side: Significant ETF contraction, central bank gold buying exceeds expectations

From the supply and demand fundamentals of gold, there is a clear divergence in this year’s demand pattern.

Highlight: Global central bank gold buying exceeded expectations in Q1, and demand for gold bars and coins grew 38% year-on-year.

Drag: ETF demand slumped 78% year-on-year—ETF gold demand was only 62 tons in Q1, while Deutsche Bank’s annual assumption is about 450 tons, meaning the remaining three quarters need to speed up significantly to meet the annual target.

However, weak ETF demand does not necessarily mean falling gold prices. Overall demand in 2023 was also weak, but gold prices still rose slightly that year.

Supply side: Scrap gold recycling is the biggest variable

On the supply side, recycled gold is the most important swing factor this year, because it responds to price much faster than mined gold.

Scrap gold recycling in Q1 was 366 tons, Deutsche Bank's annual assumption is 1,470 tons. The World Gold Council points out that as refining and recycling capacity bottlenecks gradually ease, recycling volumes may accelerate in the second half of the year. Depreciation of local currencies in some markets may also drive more “forced selling.” This means the supply risk from recycled gold is to the upside, posing potential pressure on gold prices.

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Risk Warning and DisclaimerThe market has risks, investment requires caution. This article does not constitute personal investment advice and does not consider the specific investment objectives, financial situation, or needs of individual users. Users should consider whether any opinions, views, or conclusions in this article suit their specific circumstances. Investments based on this are at your own risk. ```