What to expect from Gold?
18 JUL, 2024
Author: Peter Smith, International Equity Strategist at Federated Hermes
Historically, gold prices rise when inflation rises, when investors seek a safe haven investment in anticipation of a recession or because they fear a weakening dollar. However, none of these conditions seem to be fulfilled. After all, inflation is coming down (though not yet to the 2% level the Fed would like), the economy is growing and the dollar is strong. So why is the yellow metal rising?
Changes in supply & demand: one of the main reasons
Over the past two years we have seen a surge in demand for gold by central banks in emerging and advanced economies. Central banks have sought to diversify their holdings through alternative currencies and assets, especially after the US and Europe seized Russia's foreign exchange reserves following its invasion of Ukraine. The move into gold can also be seen as a hedge against geopolitical risk, something that has been on the rise lately.
While emerging market central banks have been diversifying their dollar assets since the global financial crisis, banks in developed countries are beginning to do so. And the figures suggest that this trend is set to continue. In a recent survey of central banks conducted by the World Gold Council, an industry trade group, almost 60% of respondents from developed countries said they believed gold's share of global reserves would increase over the next five years. This compares with 38 per cent last year. In the same survey, 13% of developed country respondents said they would increase their gold holdings over the next year, up from 8% last year. Some 56% of developed market respondents, up from 46% last year, believe that the dollar's share of global reserves will continue to fall over the next five years. Among emerging market central banks, 64% hold this view.
Central banks are not the only major buyers of gold either. In China, after a difficult few years in domestic markets, retail buyers are increasingly less interested in traditional investments such as real estate and equities. Instead, gold has become a store of value.
What does all this mean for the international investor?
The dollar's share of global foreign exchange reserves has fallen from 71% in 2000 to 58% by the end of 2023, and gold reserves, both in dollars and ounces, have risen sharply in recent years. It is therefore unclear whether an ‘all eggs in one currency basket’ approach still makes sense. If, after a decade of relative strength, the greenback continues to weaken, it may be time to diversify. Could an allocation to international equities be the hallmark of a rational response to gold's rise?
