GOLD FUNDAMENTAL ANALYSIS
The gold price has come off from its recent high as US President Joe Biden expressed confidence in avoiding a government default amid progress in debt ceiling negotiations, better US data, and hawkish comments by some Fed members. Gold is now around 4% lower than the year-to-date high reached earlier this month.
However, the yellow metal remains 8.2% higher since the start of this year, and we think it’s likely to break its all-time high later this year with multiple mid- to longer-term drivers.
Central bank demand should remain robust. Last year marked the 13th consecutive year of net gold purchases by global central banks and the highest level of annual demand on record dating back to 1950. At 1,078 metric tons in 2022, central banks’ buying of gold more than doubled from 450 metric tons in 2021. Based on the 1Q23 data from the World Gold Council, central banks are on track to buy around 700 metric tons of gold this year, much higher than the average since 2010 of below 500 metric tons. We think this trend of central bank buying is likely to continue amid heightened geopolitical risks and elevated inflation. In fact, the US decision to freeze Russian foreign exchange reserves in the aftermath of the war in Ukraine may have led to a long-term impact on the behavior of central banks.
Broad US dollar weakness supports gold. The direction of a weakening dollar is clear, with the US Fed having signaled a pause in its current tightening cycle after 500 basis points of rate hikes over the past 14 months. Other major central banks, meanwhile, remain on track to do more to fight inflation. With European Central Bank President Christine Lagarde saying there was “more ground to cover,” we believe the reduction in US yield carry will continue to weigh on the greenback. Gold has historically performed well when the US dollar softens due to their strong negative correlation, and we see another round of dollar weakness over the next 6–12 months.
Rising US recession risks may prompt safe-haven flows. While US retail sales in April rebounded from two months of declines and new home starts rose last month, falling building permits signal a slower pace of construction ahead. Overall, recent data coming out of the US showed the country’s growth is slowing, with weaker-than-expected 1Q GDP, six consecutive months of contracting manufacturing activity, and the weakest consumer sentiment since November. Tighter credit conditions, evidenced by the Fed’s latest Senior Loan Officer Opinion Survey, are also likely to weigh on growth and corporate profits. Based on data since 1980, gold’s relative performance versus the S&P 500 improved significantly during US recessions.
So, we continue to see gold hitting USD 2,100/oz by year-end and USD 2,200/oz by March 2024, and retain our most-preferred rating on gold alongside our positive stance on broad commodities. We think gold should remain a hedge within a portfolio context, with our analysis showing that around a mid-single-digit percentage allocation to gold in a balanced USD-based portfolio would have improved risk-adjusted returns and lessened drawdowns over recent decades.
However, the yellow metal remains 8.2% higher since the start of this year, and we think it’s likely to break its all-time high later this year with multiple mid- to longer-term drivers.
Central bank demand should remain robust. Last year marked the 13th consecutive year of net gold purchases by global central banks and the highest level of annual demand on record dating back to 1950. At 1,078 metric tons in 2022, central banks’ buying of gold more than doubled from 450 metric tons in 2021. Based on the 1Q23 data from the World Gold Council, central banks are on track to buy around 700 metric tons of gold this year, much higher than the average since 2010 of below 500 metric tons. We think this trend of central bank buying is likely to continue amid heightened geopolitical risks and elevated inflation. In fact, the US decision to freeze Russian foreign exchange reserves in the aftermath of the war in Ukraine may have led to a long-term impact on the behavior of central banks.
Broad US dollar weakness supports gold. The direction of a weakening dollar is clear, with the US Fed having signaled a pause in its current tightening cycle after 500 basis points of rate hikes over the past 14 months. Other major central banks, meanwhile, remain on track to do more to fight inflation. With European Central Bank President Christine Lagarde saying there was “more ground to cover,” we believe the reduction in US yield carry will continue to weigh on the greenback. Gold has historically performed well when the US dollar softens due to their strong negative correlation, and we see another round of dollar weakness over the next 6–12 months.
Rising US recession risks may prompt safe-haven flows. While US retail sales in April rebounded from two months of declines and new home starts rose last month, falling building permits signal a slower pace of construction ahead. Overall, recent data coming out of the US showed the country’s growth is slowing, with weaker-than-expected 1Q GDP, six consecutive months of contracting manufacturing activity, and the weakest consumer sentiment since November. Tighter credit conditions, evidenced by the Fed’s latest Senior Loan Officer Opinion Survey, are also likely to weigh on growth and corporate profits. Based on data since 1980, gold’s relative performance versus the S&P 500 improved significantly during US recessions.
So, we continue to see gold hitting USD 2,100/oz by year-end and USD 2,200/oz by March 2024, and retain our most-preferred rating on gold alongside our positive stance on broad commodities. We think gold should remain a hedge within a portfolio context, with our analysis showing that around a mid-single-digit percentage allocation to gold in a balanced USD-based portfolio would have improved risk-adjusted returns and lessened drawdowns over recent decades.
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