Gold nears a new record high: Why the precious metal shines during financial turmoil?
How about we take a walk down memory lane? It’s 2008, and the world is in the midst of the worst financial crisis experienced since the Great Depression. The stock market is plummeting, housing prices are falling at dramatic rates never seen before, and banks are starting to fail. If all assets are losing value badly, there’s blood all over the market, and investors are searching for a safe haven to protect their assets, where do you think they turn to? Where can investors turn during these times? To gold.
Yes, most investors, if not all, turn to gold when there’s turmoil in the market. By the time the 2008 financial crisis claimed its first major victim, Bear Sterns Investment Bank, the gold price had already reached a new all-time high record of 1,011 dollars per ounce, which was a rise of over 50% in just nine months.1 Gold hasn’t performed well only during the 2008 and financial crisis, but has performed well in 75% of market recessions that have occurred.2 In addition, gold loves and thrives in inflationary environments, as it has a strong positive relationship with the latter.
That’s why when gold neared an all-time high last Thursday, most people wondered what was happening in the economy. Gold is a good metric that most investors use to measure the market’s overall health. A sudden rise in Gold prices indicates that something not quite good is happening in the economy. But before discussing the factors that helped push the recent rise in Gold price, let’s discuss why gold performs well during economic downturns.
You might have heard gold being referred to as a “safe haven” asset before, especially during economic downturns. The main reason behind gold’s title as a “safe haven” is that it has maintained its value over time and is not subject to the same volatility as other assets like stocks and currencies. The argument in favor of that is that the shiny yellow metal is a tangible asset that is difficult to replicate, and its supply is limited, which gives it an inherent value. Additionally, gold is seen as a hedge against inflation, which can erode the value of other assets. Its reputation as a reliable store of value has been built over centuries, and it continues to be a popular choice for investors seeking stability in turbulent times.
The chart above shows the price of gold during the last five years. Notice that gold reached an all-time high of $2,075 in August 2020, following the economic fallout of Covid. That price was also reached when inflation reached digits that hadn’t been seen for many years due to Russia’s invasion of Ukraine. So one might ask, what’s pushing gold now?
The recent hike in Gold prices suggests that investors are betting on the Fed pulling back from the interest rate hike campaign, although the inflation is well above the Fed’s 2% target rate. That’s because the economy might not be as strong as it seems. Pursuing the interest rate hike campaign would only weaken the economy further, which the Fed can no longer afford. Although the labor market remains robust, last month’s banking crisis suggests that the economy is quite vulnerable to even short-term headwinds; God forbid a storm comes along!
Analysts believe that due to last month’s banking crisis, banks could be pulling back on lending and being more cautious in terms of the loans they make. This creates tighter economic conditions, which the Fed can’t put additional pressure on by raising or even keeping the interest rates high. It could be why the Fed might start lowering interest rates soon.
A reversal in the Fed’s current interest rate policy could result in higher inflation digits in the coming years. Coupled with recent oil supply cuts by OPEC+ and it creates the perfect environment that favors higher gold prices. Brian Jacobsen, a senior investment strategist at Allspring Global Investments, said two main factors pushed gold’s recent prices: “expectations of falling economic growth and rising inflation.”3
In addition to rising expectations of falling economic growth and rising inflation, the recent upside in Gold prices also came due to a fall in Treasury yields. Some investors have turned to Treasurys as they are nervous about the signals they receive regarding the economy’s overall health. As yields went down, gold prices went up due to the negative relationship between gold prices and bond yields.
Another factor to consider is the impact of lower yields on the US dollar. When yields on Treasuries fall, it reduces the returns that investors can earn from holding US dollars. This can weaken the dollar, as investors may look for other currencies to invest in that offer higher returns. Gold is priced in US dollars, meaning a weaker dollar makes gold cheaper for foreign investors. This leads to increased demand for gold, further driving its price.
To sum up, over the past few decades, gold has maintained its value and performed well during economic turmoil, which is why many get concerned when there is a rise in gold prices, as it can speak volumes to the overall health of the economy. Recently, the price of gold has been on the rise again, nearing an all-time high. Many believe that the factors that have pushed the prices of gold up include expectations of falling economic growth, rising inflation, and a fall in Treasury yields.
So, as gold prices rise and investors flock to this “safe haven” asset, one can’t help but wonder: what will happen next? Will the Fed lower interest rates, increasing inflation and increasing gold prices? Or will they maintain their current policy and risk further economic weakness? Only time will tell.