Gold prices are smashing records. For the past eight consecutive trading days, gold has hit a new all-time intraday high, and the precious metal isn’t showing any signs of slowing down.
Just look at the weekly chart of gold futures (GC) prices in Fig. 1.
Gold has not only blown past the previous all-time high established in 2011 after the 2008 Financial Crisis, but also climbed above $2,000 per ounce for the first time in history.
Now, while this hyperbolic move has been amazing to watch, it has also been unsettling for many investors. After all, haven’t we all heard that investors usually start moving money into gold when they are afraid the global economy may slow down or contract?
Let’s take a look.
There are actually five fundamental factors that tend to drive gold prices:
- Global risk discounting
- Fear of inflation
- Supply of and demand for physical gold
- Currency fluctuations
- Interest rates
We cover these factors in great detail in our book All About Investing in Gold, but here’s how these five factors are impacting gold prices right now.
What Is Affecting Gold Prices Right Now
The first factor, global risk discounting, is at the top of most retail investors’ minds right now because of the novel coronavirus.
Everybody is nervous about a second wave of Covid-19 washing across the globe this winter, forcing countries to lock down again and squashing economic growth.
Nobody knows just how far-reaching the negative effects of another shutdown could be and what the impact on the stock market might be, but many investors are hoping those effects can be offset by moving some of their assets into the oldest form of wealth preservation still in use today: gold.
However, this may not be the primary driver of gold’s recent rise.
The second factor, fear of inflation, is currently a nonfactor. According to the Federal Reserve’s latest monetary policy statement, “Weaker demand and significantly lower oil prices are holding down consumer price inflation.” That means we probably aren’t seeing many investors moving money into gold because they’re worried about inflation.
The third factor, the supply of and demand for physical gold, has become much more important, even though jewelry sales — typically an important driver of gold prices — have slumped during the pandemic.
Retail investors have started to diversify their portfolios by buying gold-based exchange-traded funds (ETFs), like the SPDR Gold Trust (NYSEARCA:GLD). These funds are backed by physical gold, so the more shares people buy, the more gold the funds need to buy and hold.
According to the World Gold Council, ETFs bought a record 734 metric tons of gold during the first half of 2020.
The fourth factor, currency fluctuations, is also impacting gold prices.
Typically, when the value of the U.S. dollar drops, gold prices increase. This inverse relationship is driven by the fact that gold is priced in dollars for most international trade.
That means the weaker the dollar becomes compared to other currencies, the more dollars it takes to buy an ounce of gold. You can see in the U.S. Dollar Index Futures (DX) chart in Fig. 2 that the value of the dollar has fallen off a cliff since late May, which has had a bullish impact on gold.
While all but one of the previous factors have had a bullish impact on gold prices, we believe the fifth factor, interest rates, has had the biggest impact.
Sustained, record-low yields on long-term Treasurys continue to force investors to look for a better return on their money.
During times of economic stability — when the world’s central banks aren’t pushing long-term yields lower by dropping short-term interest rates to zero and buying trillions of dollars’ worth of bonds and other assets — gold doesn’t look attractive because, unlike Treasurys, it is a non-yielding asset.
After all, gold doesn’t pay a dividend or a coupon rate. During times of economic instability, however, when real yields are negative (meaning the rate of inflation is higher than the yield you can get by buying an asset), gold becomes a lot more attractive.
The Bottom Line
We don’t believe that the skyrocketing price of gold is a sign that stocks are doomed. In fact, we believe it is a sign that central banks are doing all they can to stimulate economic growth, which is a good thing for the stock market. Lower interest rates are helping push both gold and stock prices higher.
This is the third time we have seen this play out during the past few decades.
When the Federal Reserve started cutting rates after the 9/11 attacks in 2001, gold and stock prices rose together. When the Federal Reserve started cutting rates in the wake of the 2008 Financial Crisis, gold and stock prices rose together.
It isn’t too surprising then that after a huge collapse in late February, the Federal Reserve started cutting rates, and now, gold and stock prices are rising together.
You can see this illustrated in the monthly comparison chart of GC and the S&P 500 (SPX) in Fig. 3.
Watch for the S&P 500 to continue climbing back up to challenge its all-time high of 3,393.52.
John Jagerson & Wade Hansen are just two guys with a passion for helping investors gain confidence — and make bigger profits with options. In just 15 months, John & Wade achieved an amazing feat: 100 straight winners — making money on every single trade. If that sounds like a good strategy, go here to find out how they did it. John & Wade do not own the aforementioned securities.