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(Kitco News) –
Gold prices have rebounded significantly despite the intensifying headwinds of an appreciating U.S. dollar and the ongoing bond sell-off, and factors such as geopolitical conflict, recession risks and Fed policy could drive the precious metal down starkly different paths, according to an outlook report from analysts at WisdomTree.
“The war between Israel and Gaza has driven many to search for safe-haven assets and gold is a top contender,” the analysts said. “Gold held relatively well against [bonds and USD] but began to wilt, with the 50-day moving average (DMA) price falling below the 200-DMA toward the end of September.”
This is what technical analysts call a ‘death-cross’, they noted, but despite its ominous name, that technical marker often signifies a new base. “And true to that, gold has rebounded significantly, despite those bond and currency headwinds intensifying,” they said.
“The best time to have an ‘insurance asset’ is before the event takes place. Gold is thus a valuable strategic asset,” the analysts said. They also pointed out that while institutional demand for the metal has been muted for months, retail demand, especially in China and Turkey, is very strong.
The analysts then explored the relationship between geopolitics and gold. “Gold is also viewed as a ‘safe-haven’ asset, meaning that during periods of economic uncertainty or heightened geopolitical risk, investors have historically turned to the precious metal for protection, pushing its price up,” the report said.
The report stressed that the current turbulence in the Middle East, though its duration and severity are unknown, has historically seen gold serve as a valuable hedging tool.
They then looked at gold through the lens of the bond market. “Markets are expecting Federal Reserve (Fed) policy interest rates to be ‘higher for longer’,” they said. “That has driven 10-year nominal Treasury yields to the highest level since 2007 and real yields to their highest since 2008.”
The analysts noted that in past outlooks, they have commented on bond yield curve inversions and their predictive power of recessions. “Gold tends to perform strongly in recessions. The lag between an inversion and a recession can be long and usually more than a year,” they said, adding that markets are jittery and expressing anxiety about what is to come.
Turning to the impact of central bank purchases, they noted that after hitting an all-time high in 2022, central bank demand for gold has maintained strong momentum.
“Between March and May 2023, Turkey’s central bank was selling gold into the domestic public markets to satisfy strong bar, coin, and jewelry demand following a temporary partial ban on gold bullion imports,” the report said, but noted that the Turkish central bank has resumed a strong buying programme and there have been three consecutive months of buying.
They also pointed out that the People’s Bank of China has reported 10 consecutive months of gold purchases, amounting to 217 tonnes, between November 2022 and August 2023.
The analysts then conducted a look back at gold prices using WisdomTree’s quantitative gold model, noting that the recent strength in gold prices has exceeded the model’s predictions. “Despite the bond sell-off, positive inflation and the US dollar remaining weaker than a year ago (although appreciating in recent months) have both helped gold,” the report said.
The analysis found that as of Oct. 20, 2023, gold prices were stronger than the model predicted. “We have assumed inflation in October of 3.7% and used spot prices for gold, US Treasuries and the US Dollar Index (DXY) as of 20 October and the last available futures positioning data (17 October),” the report stated.
The analysts attributed the discrepancy between the model’s prediction and the actual gold prices to relatively low futures positioning data. “Normally in such periods of geopolitical uncertainty we would expect gold positioning to be higher, yet the latest reading shows positioning at the long-term average of 111k,” the report said.
They also noted multiple signs of physical market strength, but said institutional demand is lacking. “Maybe it’s the allure of positive bond yields distorting institutional investor interest in gold,” they suggested, noting that the data on positioning is only available on a weekly basis and lagged by several days, so it may not reflect actual positioning at the time of the price reading.
The WisdomTree analysts also provided gold forecasts for several macroeconomic scenarios. “Our consensus scenario takes the Bloomberg Survey of Professional Economists’ average views on inflation, US dollar and Treasury yield forecasts,” the report said.
The consensus case scenario predicts a decline in inflation, depreciation of the dollar, and a fall in bond yields. “In the consensus case scenario, gold reaches US$2,090/oz by Q3 2024, piercing through previous all-time nominal highs (US$2,061/oz on 7 August 2020),” they said.
In the bull case scenario, the Federal Reserve reacts to recession warning signs and begins monetary expansion in 2024. “If recession does materialise, we expect inflation will fall below target levels,” the report said. In this scenario, gold could reach US$2,300/oz, which would be 12% higher than the all-time nominal high reached in August 2020.
In the bear case scenario, inflation aligns with consensus, but bond yields remain significantly higher for longer. “Although we acknowledge that such a scenario increases recession risk and therefore could be gold-positive, drawing more investors to the yellow metal as a hedge, for the sake of building a negative scenario, we cut speculative positioning in gold futures down to 50k,” the report said. In this scenario, gold could reach US$1,670/oz, with prices retracing back to November 2022 levels.