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What is next for the Price of Gold?

May 25, 2020 By Mircea Vasiu

Gold is more than a commodity for investors looking to hedge the risk in a portfolio. Viewed as a safe-haven in times of crisis, its role in a portfolio is to balance the fall in equities or other risk-associated market moves.

The price of gold broke higher since the middle of 2019. After six years of consolidation, it moved above $1300 and did not look back till the current $1700, with threats of breaking the $2000 mark. Is it unrealistic to think that the price of gold could move above $2000?

Understanding the Gold Market

At the start of the coronavirus outbreak, the price of gold fell instead of rising. It took many by surprise, but investors were trapped in a USD liquidity problem and dumped gold for USD. As it turned out, it was a temporary move that held up until the Fed opened the USD swap lines and provided liquidity to financial markets. For this reason, the price of oil is vulnerable to a decline in the stock market because it leads to a strengthening of the USD.

However demand for gold goes beyond investment. The four pillars of gold demand are jewelry, the official demand by central banks, industrial demand, and investment. Out of the four, investment is about a quarter, while jewelry makes up half of all the gold demand in the world.

Investment demand is a key driver for gold prices, albeit it cannot move the price of gold on its own. However, most recently, the rise in gold purchases by ETFs suggests a strong, upward moment in the price of gold.

Massive liquidity injections by central banks keep a floor under the bullish trend for gold. Moreover, renewed China-US tensions may lead to a further rally.

One other interesting factor that deserves mentioning here is the US real rates. Historically, the price of gold is directly correlated with US real rates. With the US 10-year real rates stabilizing recently, gold may find buyers on every dip.

The collapse in oil price affects inflation expectations, which, in turn, lead to lower nominal rates – meaning the US real rates will have a tough momentum moving much lower in the year ahead. However, the current pandemic taught investors to prepare for anything. After all, only last month we had seen negative oil prices on WTI futures contracts, which was a historical development in the derivatives market.

Keeping all the mentioned factors in mind, it should not come as a surprise if the price of gold exceeds $2000 sooner rather than later.