Gold prices have been dropping as the Federal Reserve signaled higher interest rates amid expectations of rising inflation, but the yellow metal’s performance depends upon a complex array of factors, including Treasury yields, the money supply and strength of the dollar.
The price of gold dropped from about $1,895 per ounce on June 11 to $1,765 one week later, a 6.9% plunge, before rising to $1,779 by late Tuesday.
As of Tuesday, gold was down 14% from all-time highs above $2,067 recorded last August.
The week-long decline in gold prices accelerated Wednesday after the Federal Reserve projected two interest rate hikes by the end of 2023—higher rates tend to hurt demand for hard assets like gold which do not bear any interest.
Since the Fed is looking to raise interest rates sooner than expected, that means they are looking to control inflation sooner than projected and as gold has historically served as an inflation hedge, the “market is viewing this news as a negative,” Luke Lloyd, investment strategist at Strategic Wealth Partners in Independence, Ohio, told Forbes.
A more hawkish Fed, implying higher real interest rates, and a stronger U.S. dollar, both point to lower gold prices, Przemyslaw Radomski, CEO of investment advisory firm Sunshine Profits told Forbes by email.
But Lloyd thinks the Fed is currently underestimating the impact of inflation and predicts the central bank will become “more hawkish” over the next year, signaling interest rate hikes even sooner, perhaps next year, a likely negative for gold, meaning he does not see the current scenario as a buying opportunity.
Gold delivered its worst weekly performance in 15 months last week over concerns the Fed will hike rates sooner than expected. But George Milling-Stanley, chief gold strategist at State Street Global Advisors, does not think the recent gold price correction is anything to worry about as the Fed’s rate hike projections are far off in the distance. Milling-Stanley told gold news website Kitco.com he sees the current price weakness as a buying opportunity. “I see a lot of panic selling and I don’t think that can last much longer,” he said, adding that the prospective rate hikes are at least two years away and “a lot can happen in two years.”
Although gold typically performs poorly in a rising rate environment, sometimes that correlation does not apply. Milling-Stanley noted that between December 2015 and December 2018, as the Fed tightened, the price of gold actually rose by 21% from $1,050 to $1,270.
The emergence of compelling–and fast growing—new asset classes, especially crypto-currencies, has raised questions about the popularity of traditional investments like gold. But Lloyd points out that cryptocurrency is a “very speculative” asset class, while gold is a much safer alternative and much less volatile. Lloyd concedes that while Bitcoin and some other cryptocurrencies might eventually serve as an inflation hedge much like gold, due to their limited supply, the price of Bitcoin is influenced by too many other outside factors—like regulatory concerns, company adoption and governments creating their own digital assets—to be considered an inflation hedge right now. As such, gold remains the “standard” inflation hedge and flight to safety, Lloyd added.
What To Watch For
Milling-Stanley expects gold to exceed $2,000 by the end of the year and he is not convinced the Fed will raise rates even if inflation climbs in subsequent years. Adding that President Biden’s multi-trillion-dollar infrastructure programs will lead to rising deficits, interest rates will have to remain low. Contrarily, Lloyd expects gold to finish the year at $1,700. Radomski, however, expects gold to keep declining over the next several months, sliding to as low as $1,500 or even lower and then recovering to the $1800 range by year end.
5,000%. That’s how much gold has appreciated in value since January 1970, versus a 4080% gain in the Dow Jones Industrial Average.