 "Guess what is causing the rally in gold – it’s not fear")
There is always a bull market somewhere goes an old market saying. While investor attention is focussed on the carnage in equity markets, there is a market that is attracting attention globally – the gold market.
Gold has historically been known as a store of value. It is proving its worth once again. While global equity markets are touching new lows, gold is at a one-year high and has given a return of 18% since the start of the calendar year.
Over the past few decades, it has been observed that gold prices rise in one of the three conditions: fear, dollar value and interest rates. For gold bugs, all three have aligned together this time.
Jeffrey Gundlach the new bond king from DoubleLine Capital said that 'In Central Banks We Trust' mantra has finally been laid bare as a hoax. Central bankers across the world have failed to control the financial meltdown. As a result, investors have started flocking to the one safe market that they have known for centuries – gold.
Total holdings of the top eight gold ETFs have risen by 3.8 million ounces so far this year, after three straight years of decline. The risk-off sentiment has made gold the best performing commodity in 2016.
Aggressive gold buying has been reported from various parts of the world. Citigroup estimates that about $2 billion flowed into gold holdings through the end of January. Money leaving the shores of emerging markets has made their way to gold markets. On February 9, 2016, in a single day, £239 million was poured into Gold Bullion Securities.
As gold is generally traded in dollar, a weaker dollar will make it cheaper to buy the shining metal. The US currency has fallen by 4% against a basket of currencies since the start of this month. Many economists feel dollar has more distance to cover on its downward journey.
While fear and dollar have contributed to the rise in gold prices, the biggest reason has been the interest rate. One of the bear case arguments against gold as an investment destination is that it does not yield any interest income. Thus in a rising interest rate scenario, gold always falls.
But now we are in a situation where a number of countries announced negative interest rates. A Wall Street Journal article lists gold as the biggest beneficiary of negative interest rates. Bank of Japan, Swiss National Bank and European Central Bank have introduced negative interest rates, while Sweden’s central bank said it is moving interest rates further into negative territory. Canada is also considering bringing interest below zero. Recently, Fed Reserve chairperson also hinted at bringing short-term interest in the negative territory.
The article points out that gold historically rallies when interest rates are expected to remain low or decline, and especially when US interest rates, adjusted for inflation, turn negative. Gold jumped from less than $1,100 an ounce to more than $1,400 during 2010, a time when real rates on the two-year note fell as low as minus 1.3%.
Till interest rates remain negative, gold run is likely to continue.
