Gold Price Framework Update – The New Cycle Accelerates

Gold prices rallied 25% in 2020 after having gained 19% the year before. We believe this marks still only the beginning of the current golds price cycle, as all main drivers for gold prices are strongly skewed to the upside.   

In our gold price framework (Gold Price Framework Vol. 2 – The Energy Side of the Equation, May 28, 2018), we identified three main price drivers for gold prices over the long run: Central bank policy (real-interest rate expectations and quantitative easing), net central bank gold sales and longer-dated energy prices (see Exhibit 1). When we presented the first iteration of this model in late 2015, we came to the conclusion that these three drivers were all aligned for gold to be at the bottom of its prices cycle and enter a new cycle.

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At the time, gold was trading at around $1100. Over the subsequent years, gold prices have gradually risen in all currencies. It made new record highs in every currency one by one, until it also finally broke its previous all-time high in USD of $1900 in July last year. Gold prices subsequently rallied briefly to $2070 in August before consolidating over the past months.

We think this is still the early stage of a new gold cycle that started in 2016 rather than the end of it. Our gold price framework has predicted the recent moves very well (see Exhibit 2). In our view, gold prices overshot in summer, and prices were no longer supported by the underlying fundamental drivers. This has now corrected. Given our views on where the main drivers in our model are heading, we think the risk to gold prices remains strongly skewed to the upside. While we think some downside risk remains, any large retracement will be short-lived in our view.

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Gold price drivers in 2020

The 25% rally in 2020 was entirely driven by the move in real-interest rate expectations. The Fed has sharply lowered interested rates and accelerated its asset purchase programs. As a result, 10-year TIPS yields went from +13bp at the end of 2019 to -111bp in early January 2021 and are currently at around 96bp. Simultaneously, the Fed’s balance sheet went from $4.1tn by the end of 2019 to currently $7.3tn. Other central banks have also rapidly increased their balance sheets. The ECB for example went from EUR 4.7tn by the end of 2019 to currently EUR 7.0tn.

According to our model, this accounted for around $400/ozt of the gold price move in 2020. In contrast, falling longer-dated energy prices had a negative impact on gold prices of about $80/ozt. And while central banks continued to increase their gold holdings in 2020, they did so at a relatively moderate pace, which impacted the gold price only by around $10/ozt (see exhibit 3).

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Disclaimer: The views and opinions expressed in this article are those of the author(s) and do not reflect those of Goldmoney, unless expressly stated. The article is for general information ...

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