This week, researchers at Goldman Sachs have maintained their forecast that gold prices will average out at 2300 USD/oz across 2021, despite the recent price dip. The spot price of gold surged in March of this year, reaching a peak of 2063 USD/oz in August but has since settled at around 1900 USD/oz amid central bank sell-offs and a strengthening U.S. dollar. It is worth considering why researchers expect the mean price of gold next year to be 20% higher than it is now.
Figure 1: Graph showing that the spot price of gold has soared throughout 2020. At their peak, prices were up 33% from the start of the year. Bloomberg L.P.
The report posits that further central bank fiscal and monetary measures necessitated by extended COVID-19 lockdowns will push more investors to buy gold as a ‘safe haven’ asset and a hedge against future inflation risk. In the United States, this would mean a continuation or expansion of the current quantitative easing (QE) programme, currently set at 80 billion USD-per-month in Treasuries and 40 billion-per-month in mortgage-backed securities. To make these purchases, the U.S. federal reserve digitally prints more dollars, devaluing the currency and increasing the risk of inflation.
The U.S. dollar is conventionally viewed as the safest asset in which to store wealth. However, the desired outcome of the quantitative easing undertaken this year has been to limit yields on bonds available to investors, reducing the interest rates available to savers and encouraging spending. In the face of minimal bond yields and a weaker dollar, investors tend to divest from the dollar to alternative investments such as gold in order to protect their wealth. Many investors view gold as another currency, just like the yen or the euro, and when their confidence is low in paper currency, they buy gold to convert back to a stronger currency in the future. This happened forcefully in the first 7 months of 2020 as investors plunged 64 billion USD into commodity ETPs (exchange-traded products backed by a physical commodity) compared to just 7.8 billion USD in the same period last year. The increase in demand prompts a commensurate increase in the price of gold. In the markets, a consensus has built that more central bank stimulus is required, which theoretically should augment the demand for gold. It thus seems unexpected that the spot price currently languishes nearly 10% below its August peak.
Firstly, the U.S. dollar has strengthened with news of the latest stimulus bill, currently blocked by an obdurate political logjam. The release of a new stimulus will require more dollars to be printed, hence its delay has seen a temporary pick up in the dollar. This temporary rebound in the dollar is highly likely to be anomalous in 2020/2021. Regardless of the outcome of the upcoming U.S. presidential election, politicians will have to come to an agreement on the release of a stimulus package that leads to more money being printed by the federal reserve.
Secondly, the largest market makers in gold are central banks, who store billions of dollars of gold as reserves. In August of this year, central banks became net sellers of gold when Uzbekistan sold 31.7 tonnes of gold to boost liquidity. This heavy influx of supply naturally lowered the spot price. Russia, accounting for 30% of gold purchases in 2019 announced in April that they were halting purchases. Per the World Gold Council (WGC), central banks have purchased around 13 billion USD of gold at current prices in 2020, a sparse amount compared to their low-end estimate of 60 billion invested in gold-backed ETFs by investors. Overall, a combined lack of demand from central banks and potential selloffs to raise liquidity are big concerns for the gold price going forward.
That said, the overall outlook for gold is bullish. UBS has echoed Goldman Sachs’s views this week with a report suggesting election outcome uncertainty in the U.S augured a positive outlook for gold. Meanwhile, a manager at the Ruffer Investment Company predicted that ‘over the next decade it is hard to think of an asset that will do better than gold’ and has invested 8% of his fund’s liquidity into the metal. A weaker dollar, asset price inflation and high uncertainty as economies emerge from COVID-19 seem likely to keep the gold price high as investors search for safety. Additionally, Mark Fitzgerald, head of product specialism at The Vanguard Group, has pointed out that the demand for gold may also be fuelled by onlooking investors jumping on the bandwagon of gold’s success, as speculators hope to pick a winner in this Keynesian beauty contest.
By Stan Clark
Sector Head: Edouard Nelson