Gold – safe haven or volatile asset?
Gold has been on a wild ride since the outbreak of coronavirus first emerged in China. One moment it was the key safe haven asset that was rising as the equity market was tumbling, but as the situation deteriorated then the gold price suffered alongside equities. Earlier this week there was hope that the gold price was about to move higher, however in early trading on Wednesday is has fallen once again. So, has the yellow metal shed its cloak of safe haven invincibility once and for all? We analyse what’s next for gold below.
But first we’ll give you some background on what the gold price has been doing in the last few months. The yellow metal had been on an uptrend since late May 2019 when it reached a low of $1,260 per ounce. The pace of the uptrend accelerated at the end of last year as gold became a safe haven asset in high demand for two reasons: firstly, geopolitical concerns between the US and Iran, and secondly news about the outbreak of a novel virus in China that was eventually labelled Covid-19. Once we saw the outbreak spread to Italy in late February, gold was a key beneficiary and from the end of February to the 10thMarch the gold price rose to its highest level since January 2013, above $1,700 per ounce. However, after that it fell spectacularly to $1,460 an ounce as investors started to sell other assets alongside equities in a rush to buy dollars. Gold is now back above $1,600, but will it break that illusive $1,700 per ounce level, and could fresh record highs above $1,800 be on the cards?
The reasons why gold may push higher:
· Central banks:the gold price tends to rally when central banks start printing money – hence its large price increase between 2008-2010 when global central banks embarked on QE programmes to boost the economy after the financial crisis. Gold’s value cannot be eroded in the same way as money because it is not controlled by a central bank, thus, the argument goes, gold is a hedge against central bank largesse. With global central banks embarking on even larger stimulus programmes to combat the economic effects of the coronavirus, you can see why the gold price is moving higher.
· Inflation:gold is also considered a hedge against inflation, the fiscal largesse from governments around the world, including the potential for actual helicopter money sent direct to households, may lead to a surge in prices in the future as the world emerges from this pandemic and economies re-start.
· Dollar:the dollar and the gold price are negatively correlated, hence when the dollar went up in recent weeks the gold price tumbled, but if the value of the dollar starts to fall then the gold price should rise. The Federal Reserve has opened huge swaps lines to help flood the global economy with much-needed cheap dollars to keep global economies afloat during these dark economic times. The dollar index is down nearly 5% from last week’s high, if it continues to fall then we would expect the gold price to rise further.
Reasons to be cautious on gold:
· Demand:not everyone is as upbeat about the gold price as physical demand to own gold is likely to be severely hit by the lockdowns to try and contain the pandemic. The world’s largest consumer of gold, China, has seen the physical purchase of gold drop back sharply while some of its country has been on lockdown, while the second largest consumer of gold, India, has been put on an indefinite lockdown to try and control the spread of coronavirus. When the world is on lockdown buying gold jewellery is less likely to be a priority and organising the purchase of physical gold to be moved from one vault to another is nearly impossible, hence why physical demand for gold could be under pressure for some months yet.
· Dislocation: The cash market for gold is trading at a $23 discount to the futures market right now. The risk is that the futures market starts to come back in line with the cash market, particularly if the virus doesn’t go away quickly and demand for physical gold does not pick up.
Overall, there are reasons for cautious optimism when it comes to the gold price. The yellow metal does not tend to go up in a straight line because of the complexities of getting gold out of the ground, demand factors and the futures market that attempts to determine where gold could go next. However, we remain optimistic that the gold price will continue to push higher, not least because after this pandemic – a global phenomenon that caused the world economy to fall to its knees - demand for gold may jump for a few reasons: 1, pent up physical demand, 2, investors including gold in their portfolios as a hedge against future inflation and just in case another pandemic strikes in the future.