After a stupendous run-up in gold prices in July, gold was trading in uncharted territory as it entered August. It hit all-time highs of $2,075 per ounce at the start of the month, only to correct sharply by 7% in the following week as Russia rolled out Sputnik V, its Covid-19 vaccine, lifting investor sentiment globally.
Though the fundamentals are incredibly supportive of higher prices, the lightning pace at which gold prices had increased was a concern, warranting a healthy correction. The rest of the month too saw gyrations in the gold price as the US dollar and US Treasury yields oscillated between risk on and risk off reacting to conflicting developments. Prices settled around $1,970 per ounce levels, 0.3% lower by the end of the month.
Has the gold rally run its course?
We believe the recent decline in gold prices is temporary in nature. Like what we witness in every bull market, it’s more likely a corrective, consolidative phase. The bull run in gold from 2000 to 2012 had seven reasonable sized corrections and so could this bull run. But gold holds strong potential over the long term as fundamentals are stronger than ever.
The main reason why we expect the gold bull market to run for at least a few more years is that policy making globally is being dominated by the theory that economies can be made stronger via more monetary inflation, more credit expansion and more government spending.
Massive and unserviceable mountains of government debt are piling up throughout the developed world in a bid to stimulate pandemic-hit economies. With a worsening pandemic and sluggish economic recovery, it is hard to imagine a scenario where governments and central banks around the world will change this accommodative stance any time soon. The result will be currency debasement and years of financial repression in order to service the debt. Gold, which is a stable form of money which promises to store value over long time periods, will thus increasingly become the preferred choice for investors and savers seeking wealth preservation.
Vaccine’s impact on gold prices
Even though the announcement of a vaccine may lead to a temporary correction in gold prices, and drive up risk sentiment, ground economic realities will take time to fix. And thus, the major driver of the current gold rally—accommodative central bank policies will continue to operate for the foreseeable future, supporting economic growth as well as gold prices over the medium to long term.
Gold’s near-term movement will no longer be linear in direction. But the macroeconomic tailwinds that instigated the bull market in gold in the first place, are very much intact, and are expected to stay that way for the next few years. Thus there is a possibility of positive price movement. Price corrections are temporary and are good entry opportunities for those seeking to establish long positions in the precious metal. Maintain a 10-15% allocation to gold as it’s the counterweight to paper money which is continuing to lose credibility as a store of value.
The writer is senior fund manager, Alternative Investments, Quantum Mutual Fund