Good as Gold?

February 27, 2020 | Jonathan Yung


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Is it too late to buy gold?

It has been six months since I wrote my August 2019 blog “Is it time to be a gold bug again?”. The rationale for gold exposure currently remains firmly intact, and, in fact, there may now be even more reasons to have gold exposure.   

During the past 12 months, the price for gold has broken out of the previous 5-year range of $1100 to $1350. In 2019, gold bullion returned 18.3% in USD. It is widely assumed that the price of gold does better when the US dollar is weakening, but this has not been the case during the past year, with both the dollar and gold rallying to new highs.  

Breaking out of the $1350 USD resistance level to the current $1600 USD per ounce makes gold an attractive investment option. The percentage gain may not be parabolic by any means, but based on the current trend, the upside on gold prices is likely to surpass $1800 USD.

Will the positive momentum in the price of gold continue?

To answer this question, investors would benefit from paying attention to headlines related to Coronavirus and future monetary easing. During the SARS crisis in 2003, gold prices spiked from $320 USD to $ 370 USD, but later cooled off. By year’s end, gold prices were up to $415 USD. While the spike might not necessarily have been entirely attributable to SARS, it does give a reference of how gold might react in similar circumstances.

The length and severity of the shutdown within China is currently unknown, making it difficult to forecast how the recovery would play out. Needless to say, with economic conditions in China likely to continue to suffer over the next few months, the chance of dovish monetary policies from various countries is high. The combination of lower interest rates and lower economic growth has traditionally been a positive signal for higher gold prices.

Geopolitical Uncertainty

If gold prices tend to rise due to geopolitical uncertainty, 2020 has a host of issues that could influence the price of gold.

At the time of this writing, the wider market consensus still appears to favor Donald Trump for winning reelection. However, Bernie Sanders’ success in the New Hampshire primary and Nevada caucuses makes for a potentially dramatic showdown in November. Sanders’ platform represents more sweeping changes to corporate governance, taxes, healthcare, and environmental regulations. The uncertain impact of these policies has not been fully digested by the markets and although the likelihood of a Sanders Presidency still seems a distant reality, investors should be humbled by the memory of Trump’s victory which was also a surprise to many.

Furthermore, the “second phase” of trade war negotiations between the US and China is also expected to bring bold headlines that produce uncertainty that may influence the price of gold.

Real Interest Rates

The “real interest rate” refers to the rate of interest that an investor or lender receives, after accounting for inflation. In other words, the real interest rate represents how much interest one actually earns after inflation. Traditionally, the lower the real interest rate, the better the prospects for gold prices. All things being equal, if inflation rises, the real interest rate falls. Moreover, if governments raise interest rates (assuming inflation stays constant), the real interest rate rises accordingly. It is important to note that inflation has been quietly ticking up in the US.

This relationship between interest rates and inflation is likely to be the main driving force of gold sentiment in upcoming years. Below, I outline four different scenarios and how gold prices could react.

  1. Economies see a flat rate of growth, inflation ticks up, rates cannot go up (good for gold prices).
  2. Economies recover strongly and inflation picks up more aggressively (good for gold prices).
  3. Economies falter or enter a recession. More negative-yielding debt (good for gold prices).
  4. Economies recover strongly and central banks raise interest rates (real interest rates become more positive) while inflation drops (bad for gold prices).

 In summary, the overall trend for gold seems to appear positive for 2020 and beyond. The technical indicators show a breakout from a resistance level and the fundamental factors related to low-interest rates, higher inflation, geopolitical uncertainty, and a lingering coronavirus also point in favor of higher prices in gold. Like with many commodity prices that have so many influencing factors, this is an asset class that warrants monitoring when purchased. We recommend investors to speak to their investment advisor to review how gold exposure may fit in their portfolio.