The rally in gold has taken a breather after making a fresh high early this month. In India, 24 carat gold prices have corrected from a record high of Rs 55,500 per 10 gm on August 8 to around Rs 53,000 now. So what should investors do? Should you wait for prices to fall further to make incremental investment or is this the current price to make a purchase? Let's examine both the view points in detail.
In the New York market gold is now trading at $1960 dollar a troy ounce in the futures market down nearly six percent from the record high of $2089 made on 7th August. In the interim the yellow metal touched intra day low of $1874.2 on August 12.
Globally there is no clear cut consensus on the future trajectory of gold prices among leading analysts and investment bankers. Analysts at Bank of America, for example, expect gold to hit $3000 by the end of 2021 calendar, translating into nearly 50 percent return for investors from current levels. In contrast, analysts at JP Morgan Chase expect the gold price to cool down after giving 30 percent return to investors in the last 12 months, which will be more than any other asset.
Denmark's top bank Saxo Bank, known for its out of box predictions, expects gold to make a fresh high later this year given no material change in the monetary policy from the major central banks.
The charts suggest that gold prices are still in the bullish zone as the correction has so far been mild and the prices stayed above key resistance levels.
Historically 10-15 percent correction in gold prices is uncommon after a break-out to make a new high.
For example in October 2009, gold made a fresh high of around $1070, followed by price decline of around 4 percent. This was followed by nearly a 20 percent rally and another correction of 15 percent. As a result gold prices in March 2010 were similar to that in October 2010. (See the adjoining chart).
This see-saw movement however turned out to be price consolidation and prices rallied nearly 50 percent over the next six months and made an all-time high of $1972 in September 2011.
Moreover the underlying macroeconomic conditions that fuelled the rally in gold prices earlier this year remains more or less intact.
Gold investors should also note that the mild correction in gold was preceded by a sudden hardening of the bond yields in the United States. Yield on the 10-year US government jumped by nearly 22 basis points or nearly 50 percent from a record low of 0.5 on August 4 to one-and-a-half-month high of 0.727 per cent on 13th August.
Rise in bond yields is negative for the yellow metal; it doesn't give any yield to its holder unlike bonds or equity.
Interest rates are once again moving downward and yield on 10-year US government bonds is now down to 0.65 per cent. Most analysts expect the interest rate to stay and even closer to zero percent given the precarious condition of the United States economy due to the rising case of COVID-19. Besides, the US Government is running record levels of fiscal deficit to fund its stimulus programme and it needs low interest rates to fund its massive borrowing programme. This is an ideal recipe for a bullish stance in the gold.
This shows in the continued strong inflows in gold backed exchange traded funds, (ETFs) According to World Gold Council Gold-backed ETFs recorded their eighth consecutive month of positive flows, adding 166 tonnes in July – equivalent to nearly $10 billion. Global holdings of gold reached an all-time high of 3,785 tonnes at the end of last month.
Low interest rate means there is little or no opportunity cost of holding gold for investors and this should keep investment demand for gold at a higher level.
Another reason to support a gold rally includes the “political need” by major governments to induce higher inflation in their economies to lower their debt burden, as savings glut in major economies as former exceeds investments and rising geopolitical tensions ahead of the U.S. presidential elections in November.
Gold could see a few months of corrections and profit booking accompanied by a risk-on trade in risky assets. However, global macros continue to support gold over competing assets.
(Karan Deo Sharma is a Mumbai-based finance and equity markets specialist).