Silver Price Analysis: XAG/USD stabilises above $22.00 as focus turns to Friday’s US jobs report

• Silver has taken a beating on Thursday but stabilised just above the $22.00 level as focus switches to Friday’s NFP.
• The precious metal has been under selling pressure recently as Wednesday’s hawkish Fed minutes pump Fed tightening bets.
• XAG/USD could be headed for a retest of December lows under $21.50 if the jobs report endorses a March hike.

Spot silver (XAG/USD) prices have taken a beating thus far on Thursday, though the selling pressure has eased in recent trade after the precious metal found support at the $22.00 level. At current levels just below $22.20, XAG/USD trades lower by more than 2.5% on the day and is nearly 5.0% below the highs at set above $23.20 on Wednesday prior to the latest hawkish Fed minutes. The minutes surprised on a number of fronts, with FOMC participants uniformly concerned about elevated inflation and in support of a potential sooner and faster rate hiking cycle to address risks. Moreover, strong support for a prompt reduction in the size of the Fed’s balance sheet once the hiking cycle is underway also came as a surprise, with it previously just having been hawkish Fed members to jawbone about quantitative tightening.

The hawkish nature of the minutes sent bond yields shooting higher and, most notably for precious metals markets, the move has been driven by real yields. While the US 10-year is up more than 20bps on the week, the 10-year TIPS yield is up around 25bps and recently broke out to its highest levels since June of last year. Above -0.80%. Higher real yields increase the opportunity of non-yielding assets such as precious metals, thus weighing on their appeal to investors. Precious metals traders will also note that market-based measures of inflation expectations have been heading sharply lower this week, with 10-year break-evens reversing from Tuesday’s highs above 2.64% to current levels around 2.45%. Lower inflation expectations reduce the demand for assets that offer inflation protection such as silver and gold.

In terms of what's next for spot silver, trade is likely to now enter wait-and-see mode ahead of Friday’s US jobs report. With markets pricing a strong possibility of a March rate hike, traders primarily seek to interpret how the December jobs report boosts or hinders the chances of March lift-off. The Fed in December framed the labour market as making “rapid” progress back to full-employment, even in light of December’s sub-par non-farm payrolls number of 210K and has said that if this rate of improvement continues, rate hikes will soon be warranted.

The Fed is likely looking through softer monthly NFP numbers so long as measures of slack (the unemployment rate and participation rate) show signs of improvement (particularly the former). Fed policymakers have acknowledged that the pandemic is holding people back from the labour market, meaning the scope for large MoM employment gains at present is limited. As long as slack measures continue to point to a tight labour market (as other data releases this week did), the bar is low for Friday’s headline NFP number to fulfill the Fed’s continued rapid progress criteria. Consensus expectations for 400K jobs having been created in December easily fits this bill.

That suggests the scope for a rebound in precious metals on a dollar/real yield pull-back as traders reverse recent hawkish bets for a March hike is limited. If that was to be the case and XAG/USD did rally, the main levels of resistance to look out for are the 21-day moving average and recent lows of the last few weeks around $22.60 and then the highs from the last few weeks in the $23.40 area. If a strong labour market does give a thumbs up to a March rate hike, then spot silver prices could be headed back for a test of December lows just under $21.50, a further 3.0% decline from current levels.