With Falling Gold Prices, Can We Be Bullish on Bullion?
Wednesday witnessed a fall in gold prices, as strong U.S. economic data persuaded some investors that the Federal Reserve may increase interest rates in the coming months.
Gold for December delivery, which is the most actively traded contract, closed down 1.2% at $1,124.60 a troy ounce on the Comex division of the New York Mercantile Exchange.
As new orders for durable goods increased by 2% in July, the positive numbers could be a reflection of a boost in U.S. consumer confidence. New home sales further indicate that the U.S. economy may be improving and becoming strong enough to allow a rate increase from the Fed this year.
Higher rates, however, often spell doom for gold, which gets its investors nothing and struggles to perform against other high-yielding investments when borrowing costs surge.
Gold touched a seven-week high last week when certain investors assumed that the Federal Reserve will postpone hiking interest rates due to the worsening economic conditions in China.
David Govett, a precious metals analyst at Marex Spectron commented that with the U.S. data improving, “the rally we saw over the last couple of weeks is, to my mind, over and done for the time being, and I would once again look to sell rallies in gold above $1,150 an ounce”.
Along the same times, the People’s Bank of China slashed interest rates by one-quarter of a percentage point. It also decreased the bank reserve requirement ratio by half a percentage point on Tuesday, thereby calming the nerves of investors worried about a downturn in the country.
As mentioned, bullion reported losses after data reflected U.S. consumer confidence hit a seven-month high this month. This is another indicator of the bouncing back of the U.S. economy which could influence the Federal Reserve to raise interest rates this year.
Gold had already reported a fall on Monday, with a section of traders pointing towards liquidation to make up for losses in the other markets as a drop in Chinese equities resulted in the sinking of stocks and commodity prices globally and hit the dollar.
On Tuesday, however, Wall Street reported its sharpest rally of the year. The U.S. dollar soared more than 1% against several other currencies. This came on the heels of the market’s worst performance in four years egged on by fears over the Chinese economy.
Nicholas Snowden, and analyst with Standard Chartered opined, “We're still in an environment where we know US interest rates will go up. For gold, that limits how much of a bid you will see, even with the sort of financial market turmoil that ensued yesterday”.
Prior to the positive data received on Tuesday, expectation that the Fed was on track to increase interest rates this year fell flat.
The uncertainty on gold, however, continues to remain.
As per Peter Hug, Director of Kitco’s Precious Metals Division, “As to be expected, the calming of fears has taken the edge off of gold”. However, he was quick to add that a “major swoon” in gold prices is unlikely in the short term and uncertainty over its bouncing back remains.
For a lot of investors, however, unstable economic times are the best periods to be active in the gold market.
For those looking to understand why investing in precious metals like gold continues to be appealing, it’s because these metals can help protect wealth as they tend to perform well in a turbulent economy. Over the years, precious metals have acted as a robust hedge against the weakening dollar. This goes a long way in extending a feeling of financial security in uncertain times.
Precious metals have, time and again, proven to be a safe investment option in times of war/terrorism, political or social upheavals and uncertainty. Gold has always been perceived as a safe haven investment. Hence, it makes sense to several investors to put their money where disappointment is less likely.
Investing in gold also works as a great alternative to traditional cash-based retirement schemes. The national monetary policy prints dollar to resolve economic crisis. With more money being printed, the value of money saved in retirement funds experience a decline. It is, therefore, better to include a certain proportion of gold in the retirement account to limit monetary losses.
Patrick Connolly of Chase de Vere, an advisory firm, explained in January that, “Ideally gold is looking for a weak dollar, economic uncertainty and geopolitical risk.
So we have a mixed picture here, with some characteristics positive for gold and others negative.
The current lower gold price makes it difficult for gold mining companies to operate profitability, although if we do see the gold price rising gold shares could increase at a significantly faster rate.
It is difficult to see what real benefits can be achieved through holding physical gold in the long term.
While there will be periods that it can act as a safe haven, there are many times when this simply isn’t the case and over time we’ve seen that it isn’t an effective hedge against inflation”.
Mr. Connolly was of the opinion that most investors will always have a degree of access to gold and other mining shares in the form of a diversified and well-balanced investment portfolio. He stated that there will be no need to consider any additional exposure to this asset class.
For those interested in adding gold to their portfolio, he suggested an allocation of around 5% or less (of the entire portfolio) could work well.
Kiara Medhurst is a content strategist at My Gold Limited - New Zealand's leading precious metals merchant. When in leisure time, she loves to read books and spend time with friends and family.