Globally, inflation was also heating up and threatening to derail economic growth. Gold is traditionally seen as a safe-haven asset during times of economic strife and uncertainty. It played its part, but not for long. As global markets tumbled amid rising inflation and uncertainty, gold prices soon fell in tandem with other asset classes, compounding investors’ misery. This despite a fall in real interest rates, which is usually conducive for gold. Its perceived utility as a diversifier appeared broken.
One of the culprits was the soaring US dollar amid buoyant US bond yields. Gold and dollar tend to have an inverse relationship. The US Federal Reserve’s persistent hawkish stance, delivering the quickest rate hike cycle ever, sent the dollar zooming but dragged down gold. Continued lockdowns in China—a big market for precious metals— also pegged back demand for gold jewellery. In dollar terms, gold prices fell 22% by October from their peak in March. But gold regained its mojo towards the end of the year.
Underpinning the turnaround was the waning pace of inflation in the US, which raised hopes of an end to the US Fed’s stifling rate hike regime. The precious metal has benefited from a softer dollar and lower US treasury yields. A rebound in demand from China along with continued buying from central banks has also supported gold prices. Some of these drivers will continue to aid gold for some more time, feel experts.
The US Fed’s monetary policy will continue to determine the trajectory for gold for now. Chirag Mehta, CIO, Quantum AMC, believes the slowing pace of rate hikes by US Fed to 25 basis points can be seen as a sign that the central bank is either satisfied with the pace of slowing inflation or is getting nervous about their aggressive policy’s impact on growth. “Either way we are not too far from the Fed scaling back,” Mehta argues, stressing this makes the outlook for gold, which is highly sensitive to the rate outlook, positive.
Once the rate hikes come to an end for good, which is likely to be by mid-2023, we can expect positive implications for gold prices. But there is also the possibility of a policy error by the Fed, where it keeps policy rates higher for some more time as a transition, and ends up tightening too much. “In such a scenario it would be compelled to intervene and aggressively cut rates to undo the damage, thereby hurting its credibility and undermining the dollar. Even this should help gold,” adds Mehta.
Another tailwind for gold is the impending growth slowdown, possibly extending to the much-anticipated global recession. Gold’s appeal as a store of value in tough conditions could be revived. Historical observations suggest that gold typically fares well during recessions (see table), delivering positive returns in five out of the last seven recessions.Gold has traditionally held strong during global meltdowns
The precious metal has fetched positive returns in 5 out of last 7 recessions.
This does not mean a recession is a prerequisite for gold to perform, observes a Mirae Asset AMC note. “A sharp bust in growth is sufficient for gold to do well, particularly if the inflation is also high or rising,” it suggests. In fact, this heady combination of slow growth and elevated inflation could keep gold prices buoyant. If stagflation were to intensify, but with central banks holding off on additional monetary tightening, gold’s price might see positive momentum due to less attractiveness of asset classes like stocks, bonds and currencies.
In this case, gold may be viewed as the “only asset in town,” resulting in hovering around and possibly breaking its all time high price, suggests the note. Mehta insists that if we see a recession in the US, albeit a shallow one, gold will be better placed than risk assets. Rate cuts in response to growth deterioration, which is not a question of if but when, will be constructive for gold prices, he says. Meanwhile, a ‘soft landing’ for the US economy—escaping the clutches of a slowdown—which would be a negative for gold, is looking increasingly unlikely.
With geopolitical uncertainty still raging, it adds to the multiple factors that may converge and come into play, propelling gold even further this year itself. Yet, Mirae Asset AMC suggests investors should ideally look to use gold for asset allocation from long term point of view. With a couple of more rate hikes yet to come in, Mehta reckons investors could take advantage of any price corrections in gold to build their allocation.
