Why the interest rate differential is moving in favor of the USD

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Nov. 26 2019, Updated 7:26 p.m. ET

Interest rate differential

Higher U.S. interest rates compared to those in the other regions—like the Eurozone—will cause investors to shift their investments to the U.S. dollar (or USD) from the euro. To understand this better, we’ll analyze the current interest rates and interest rate expectations for the U.S. and Eurozone.

The USD will strengthen. This could lead to negative sentiment for gold prices (GLD). It would be negative for gold stocks like Goldcorp (GG), Barrick Gold (ABX), Newmont Mining (NEM), and Yamana Gold (or AUY). It would also be negative for exchange-traded funds (or ETFs) that invests in these stocks—like the Gold Miners Index (GDX).

EUR-USD exchange rate

U.S. interest rate expectations

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First, we’ll look at the interest rate expectations in U.S. The Federal Reserve (or Fed) is expected to raise interest rates in 2015. The Fed is watching U.S. labor market data to determine when the U.S. economy is ready for its interest rate hike. Lately, the data has been positive. This means that an increase in U.S. interest rates should come soon.

Eurozone interest rate expectations

Now, we’ll look at the interest rate expectations for the Eurozone. The European Commercial Bank (or ECB) cut the interest rates on September 4. The ECB cut the rates to stimulate economic growth in the Eurozone. Low inflation also caused the bank to take this policy action. Refinancing rates were cut by 0.10% to 0.05%.

The difference between the interest rates in the U.S. and Eurozone is expected to increase in the future.

Higher interest rates would make the USD more desirable to the foreign investors. As a result, the USD would strengthen.

Click here to learn why real interest rates impact gold prices.

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