Fed pivot may see prices drop before any Powell Powell's exit

After about a year, the Federal ReserveFederal Reserve pivots to simpler monetary policy, but prices may drop before that as the US central bank goes on shrinking its balance sheet, according to FS Investments.

Troy Gayeski, who joined the Philadelphia-based asset manager in October, said that the exposure to bullion of the FS Chiron Capital Allocation Fund could increase from 4% to 4% once the Fed begins to ease aggressively. Gayeski said in an interview that it s rational to assume another mild leg down before that move.

In March, gold dropped by 14% from a near all-time high as gains caused by the outbreak of war in Ukraine were undone by the dollar's surge to a new record and the Fed's move to raise rates to quell inflation. The US central bank has been reducing the balance sheet as it went all-out to combat the economic fallout from the Pandemic.

Gayeski, who worked for more than a decade at Anthony Scaramucci's SkyBridge Capital, said that gold is still trading around $1,800 despite a meteoric run up in the dollar. He said that it bodes well for the next cycle of easing because it is not far below its recent peak despite Herculean tightening by the Fed.

The Fed delivered two outsized hikes in June and July totaling 150 basis points - the highest since the price-fighting era of Paul Volcker in the early 1980s - sparking concerns of a recession. Chair Jerome Powell said last month that the plan to reduce the bank's balance sheet was picking up steam. The data showing a cooling of US inflation shows that there is a decision on rates in September.

Gayeski, who emphasized bullion's relative resilience in recent months, said a Fed pivot would probably be modest and mild. He thinks the Fed will stop hiking and shrinking its balance sheet, and then start easing in 12 to 18 months.

Spot gold was last traded at $1,775. 59 an ounce was compared to the year's intraday high of $2,070. The traditional haven, which doesn't pay interest and tends to lose out when rates rise, has dropped about 3% year-to-date.

He said that if there is another leg down, it will be driven by Fed balance sheet reduction, just like other assets, despite the fact that it is hung in as well as has, relative to the pace of tightening. The resilience this year has been impressive.