Time for gold to shine?
It’s not been a good year for the ‘hard money’ advocates.
Gold as an inflation hedge hasn’t worked out, and even throughout this year when real yields have been negative, gold hasn’t benefited as many would expect…
One of the big drivers of gold (and many other financial assets) is “real yields”.
Basically, if an asset (such as a 10 year bond) yields 1.5%, and inflation rates are expected to be 2.5% over that same period of time (e.g. 10 years) then the REAL yield is actually negative at -1%.
Real in this context is shorthand for “after-inflation”.
Why is gold attractive in this scenario?
Gold is a zero yielding asset. Zero is better than MINUS 1%, so gold is more attractive...
Let’s take a look at the gold chart:
Having started the year just below $1900, gold has struggled to gain any ground. A brief summer rally saw the yellow metal move into positive territory before falling off again.
Two sharp drops took gold right down to $1683 in August, and it’s been building since then...
So, why isn’t gold doing well when real yields are negative?
We can definitely make the case that there have been better yields available elsewhere! Negative real yields in a frenzy of economic growth, record low rates across the developed world and massive returns in equity markets are VERY different to negative real yields in an economic slowdown.
Zero yielding gold is attractive when real yields are negative AND there are few alternatives to earn a respectable return.
That hasn’t been the case this year. Next year might be a different story though...
All eyes on Jerome and the gang
This week's Federal Reserve meeting will set the stage for monetary policy over the next year. The ‘dot plot’ is due to be published and will show just how concerned policymakers really are about inflation.
Chair Powell’s comments to the Senate suggest a high degree of uncertainty:
- "It is difficult to predict the persistence and effects of supply constraints, but it now appears that factors pushing inflation upward will linger well into next year,"
- [The Federal Reserve] is committed to our price-stability goal and will use its tools both to support the economy and the labor market and prevent higher inflation from becoming entrenched."
Markets are looking for every possible clue to judge just how committed the Fed is to this last point.
A rapid sequence of rate hikes would likely see the riskiest assets sold (ARK holdings are a great proxy for the riskier end of the asset spectrum), anticipating that financial conditions would quickly tighten.
Markets currently expect three 25bps hikes next year. In a scenario where the Fed ‘median dot’ sees hikes at this pace or faster, gold could regain appeal as market participants look for somewhere to park their cash and wait for the inflation storm to blow over.
Where the Fed goes, other central banks are sure to follow… Wednesday’s meeting could set the central bank agenda for 2022.
Not investment advice. Past performance does not guarantee or predict future performance.
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