Morningstar's "Perspectives" series features investment insights from third-party contributors. Here, Tom Stevenson, investment director for personal investing at Fidelity International, shares his thoughts on the gold price outlook.
Gold has been a store of value for millennia. When faith in paper currencies is in short supply, people love the indestructible quality of the yellow metal. You can’t print it and all the gold that’s ever been mined could be stored in a couple of Olympic sized swimming pools. That’s the main point about gold – its scarcity.
Gold performed well during the first flush of the Eurozone crisis
The link between global disruption and the performance of the gold price is well established, so when the World Economic Forum, the organisation which organises the Davos meeting each January, published its annual report on the 29 top global risks recently, it was unsurprising that the precious metals analysts at HSBC should have taken a close look.
The bank has taken all 29 of the risks highlighted by the WEF and categorised them according to how likely they are and what their impact might be on the gold price. The four most interesting are the ones it sees as both likely and having a high potential impact on the precious metal.
In light of the troubles in the Middle East and the migrant tragedy on our own doorstep, it is reasonable that social instability should be top of the list. As far as the gold price is concerned what matters is where the disruption happens. Upheavals in developed or large emerging economies are likely to have the greatest influence on financial markets and the global economy.
Second on the list of high-impact-and-likely events is the pricking of an asset bubble. The evidence of 2008 is that dramas in the equity market can be good news for gold. Contributors to the report from developed countries ranked asset bubbles as their greatest concern.
A third positive for the gold price might be a fiscal crisis similar to the problems that turned into full-blown sovereign debt crises in the wake of the financial crisis. Gold performed well during the first flush of the Eurozone crisis in 2010/11.
Finally, the low oil price is a potential positive for the gold price despite the fact that the oil and gold prices tend to move in the same direction. This is because a persistently low oil price is both a positive, for consumers and companies, but could also bring with it many negatives – such as financial instability, non-performing loans for banks and even social unrest in economies dependent on energy exports.
What is Driving the Gold Price Today?
Leaving aside these global risks, for which gold may be an insurance policy, what are the fundamental factors driving the gold price today? HSBC laid out three reasons why it thinks the gold price might be on the cusp of a better year in 2016.
The first positive lies in demand for physical gold, particularly in emerging markets like India and China. Buyers of gold in these markets are acutely sensitive to price and it is widely thought that at today’s price of $1,154 an ounce, nearly 40% below the 2011 peak, Chinese and Indian buyers are lining up to top up their holdings or buy jewellery.
Second, the dollar exchange rate is a key driver of gold with a falling US currency positive for the gold price and vice versa. Only a couple of months ago, the conventional wisdom was that the dollar would appreciate against other currencies this year as the Federal Reserve looked to increase US interest rates. Today, that looks increasingly unlikely as expectations for rate rises are reined back. Any unexpected weakness in the dollar could drive gold higher.
Third, investment demand for gold – through exchange traded funds – looks like it could become a net positive after three years of outflows.
The impact of a rising gold price is already beginning to be felt in the share prices of gold producers which are particularly sensitive to changes in the price. That’s because their costs are largely fixed so a better selling price quickly feeds through into higher profits.
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