It is after a very long time that the price of gold has seen a consistent rise for 9 successive trading sessions. After touching a low of $1050/oz and threatening to fall below the $1000 mark, gold registered smart gains to cross and settle above the $1100 mark. Is this a sustainable rally in gold prices, or is it just another false rally like the many cases we saw post 2011?
What could support gold?
The price of gold has typically been a function of safe-haven demand. The demand for jewelry and ornaments has always been there and that has rarely driven the price of gold. It typically happens when the world is expecting cataclysmic events of political, economic or geopolitical magnitude. Are there such signs right now?
Actually there are quite a few such signs. The world powers have been fighting a futile war against the ISIS in West Asia and it is the closest they have come to a world war since the Bay of Pigs in 1962. Additionally, the two major powers in the Middle East; Saudi Arabia and Iran, are locked in an open battle. This could have serious ramifications for the politics of the Middle East and West Asia. Then there is the concern over China slowing down and the US tightening economic conditions. Remember, the last two major rallies in gold? Between 1971, when the Gold Standard was dropped and 1980, the price of gold moved up from $35/oz to $940/oz. This period was marked by the Yom Kippur War, Arab oil embargo, Iran-Iraq war and Russia’s invasion of Afghanistan. Similarly the gold rally between 2008 and 2011 was driven by loss of faith in financial assets post the Lehman crisis. Probably, one can say that 2016 may mark the world’s disenchantment with loose-money policies of the global central banks.
So what does that mean for gold?
While the current turmoil surely builds a case for gold, in reality the impact on gold prices may not be anything close to the previous two rallies. That is because, despite the slowdown in China, it is still growing at above 6%. It will surely create problems for commodity economies, but that will be limited to their currencies. The US is more than willing to change tack on tightening.
There are analysts who expect the price of gold to bottom and lead commodities up, like it did in 2004. That is hard to fathom considering that most gold ETFs have been consistently losing AUM over the last 3 years. What the current turmoil could do is to help gold find a bottom around the $1050/oz mark and gradually gain ground from there. But any frenetic rally in gold is largely ruled out. The most important issue is that strong gold prices coincide with a weak dollar. With 3% US growth, that looks unlikely in the foreseeable future.