The End Of The Gold Rush?
When the price of gold surpassed $2,000 USD per ounce in August 2020, it was revered as a key milestone for the precious metal. Commentators began questioning whether the $2,000 price mark that traditionally acted as a level of resistance would soon become the new support level. Such optimism was due to the fact that investors and traders were buying into gold to reduce their risk exposure and manage the market volatility caused by COVID-19.
Over the course of 2020, I commented extensively on gold’s price movements. Based on my initial observations, it was clear to me that gold had not lost its shine as a safe haven asset. The market was confident the asset could hold its value in the long-term – an appealing factor, considering the bear market trends and rising inflation that investors had to contend with.
By the end of the year, the price of gold had risen by 25%. What’s more, Goldman Sachs projected the gold price to reach around $2,300 in 2021. Despite this bullish outlook, the prospects for gold does not look as positive – the price per ounce is currently sitting around $1700.
In fact, there is reason to believe that the buyer momentum responsible for the so-called ‘2020 gold rush’ is waning as investors look to other assets. I believe this is partly being driven by the performance of the USD – I explain why below.
The USD headwind
One could argue that part of the reason why gold reached record highs was due to the depreciation of the USD. In December 2020, the reserve currency index reached its lowest point since April 2018 – a consequence of low-interest rates and intervention from the Federal Reserve to overcome the financial challenges posed by COVID. However, it now looks as though the USD is consolidating its position and set for a recovery, which will negatively impact the gold price.
Generally speaking, when the value of the USD increases relative to other major global currencies, the price of gold is likely to fall. The reason for this is simple – as the price of gold is linked to the USD, a rise in the dollar value makes the commodity more expensive. As a consequence, the demand is then likely to drop due to there being fewer buyers on the market. On the other hand, if the USD depreciates, it becomes cheaper to buy in other currencies.
So far this year, the value of the USD has been making modest gains when compared to other currencies. This is due to the general market optimism surrounding the economic recovery of the US from the coronavirus, not to mention the $1.9 trillion coronavirus stimulus bill recently passed by the US senate. This bodes well for the dollar, as it will once again establish itself as a safe-haven currency. In turn, this could lead to investors selling off their gold holdings.
The Fall in Gold ETF levels
The price of gold had been heavily supported last year by the rise in Exchange Traded Funds. These flows are now rapidly declining and that has been helping gold move lower more rapidly. The graphic below shows the steady decline in levels this year.
(Click on image to enlarge)
The rise of digital gold?
While the short-term appeal of gold might be affected by the recovery of the USD, we should not be concerned by the long-term significance of gold as an asset. Over the years, it has established itself as a safe-haven asset. Should current market optimism wane and plans to lift lockdown restrictions become delayed, we could see a sudden shift in investor sentiment and substantial price growth for the asset.
If we look at the UK market, a survey of 950 investors by HYCM in January this year revealed that 19% are planning on investing in gold in 2021 – an increase of 5% on Q1 2020’s figures. This demonstrates the underlying attractiveness of gold in times of uncertainty.
One final point to note is the notion that gold could be surpassed by the rise of a new digital gold – Bitcoin (BTC). Over the last three months, BTC has become a trending topic of discussion amongst financial commentators. Not only has the digital currency surpassed $50,000 per coin, but analysts are also confident the price go could above $60,000 as more retail investors and institutional funds come to accept its role in the financial market.
There are claims that BTC and gold hold similar characteristics as asset class. They are both scarce and high in demand. So, if BTC becomes more widely accepted by retail and institutional investors, it could be seen as a new way of hedging against market volatility, thereby removing some of the shine from gold. One could even go so far as to argue that BTC could be used as part of a short-term hedging strategy in reaction to sudden market shocks.
For now, there are simply too many unknowns at play to properly conclude what the future could have in store for BTC. If the price stabilizes and institutional investors begin to accept its position in the markets, there could be a stable future on the horizon. Conversely, if there is a sudden loss of faith in the cryptocurrency, and moves to regulate it, the opposite could no doubt prevail.
The coming months will be an important time for the price of gold. Should the recovery of the major economies proceed as planned, demand for the precious metal is likely to drop. Nevertheless, this does not change the fact that gold is a safe haven asset that can be effectively used as part of different investment strategies.