Why is the gold price rising? Five forces driving the precious metal

Posted on July 14, 2016 by Bob G. There have been 0 comments

By - Bob G.

Hoarding gold is a centuries-old reaction to times of crisis, and the aftermath of the EU referendum vote is no different.

The yellow metal has soared in value since Britain voted to leave the European Union as investors shoot towards traditional "safe haven" assets. Prices have reached a three-year high as Brexit worries intensify.

An ounce of gold is now worth $1,327 (£1,003), up from $1,257 on June 23. However, the spike follows a sustained rally in the gold price throughout the year. The metal is now worth a quarter more an ounce than it was at the end of 2015. But there's a dilemma: is the rally already over, or would it be foolish not to buy gold?

1. The Brexit effect

Gold has rallied since the Brexit vote, but there are signs calm is returning.

The FTSE 100 has recovered its poise following the installation of Theresa May as Prime Minister, allaying fears of political instability.

BullionVault, an online gold and silver marketplace, said its users traded a record £30m in gold on the Friday the Brexit result was revealed, but the market has since calmed.

"The private-investor market for gold and silver is well balanced, not panicked, after the Brexit price surge," said Adrian Ash, head of research at BullionVault.

"New interest in gold has turned sharply higher, led by US investors perhaps finding a warning of volatility in the Brexit vote ahead of November's presidential election."

2. Interest rates

Demand for gold typically climbs when interest rates are low. Although gold has no yield, it tends to offer investors a better place to park their money when returns from bonds and cash savings are poor - as they are when rates are low.

At the end of last year, it seemed the tide was turning, with the US Federal Reserve increasing rates for the first time in seven years. But the Fed folded on a rate rise in June and expectations for further hikes this year have receded.

Meanwhile, the Bank of England this week dashed expectations that it would slash rates below 0.5pc over fears Brexit could plunge the economy into recession.

But even if rates do rise, it may not necessarily be bad news for gold.

"Gold behaves differently after a hiking cycle," says Matthew Michael, a commodities expert at asset manager Schroders. "A quick look back in history shows gold has performed well when rate hikes happened in the case of the Fed.

"Why do central banks increase rates? It's because there's liquidity, growth is improving, and these are also things that drive people into gold."

3. The dollar

The dollar is gold's big rival and the two tend to have an inverse relationship - when demand for dollars falls, investors and banks around the world park their money in gold, thereby increasing the value of the yellow metal.

When the dollar appreciates in value, investors tend to shift their money from gold into the currency. The fall in demand for gold causes its value to depreciate.

"A strengthening dollar is a headwind for the spot price of gold, but serves to boost returns for sterling-based investors," explains Laith Khalaf, a senior analyst at Hargreaves Lansdown. "It is best used as a hedge against catastrophe."

4. Eurozone crisis

Fears of a collapse in the Eurozone have never quite gone away, even after Greece brokered a deal on its debt in May. The impact of Brexit on the wider European economy is yet to be quantified.

During times when bonds issued by the Spanish, Italian and Portuguese governments are generating poor returns, gold gets a boost.

Spanish 10-year bond yields, for example, took a 30pc dive following the Brexit vote and are at 1.13pc. Portuguese 10-year notes are faring slightly better, at 3.1pc. That's down from 4.1pc in February.At present, low yields on these bonds will continue to drive investors into gold's arms.

5. China's demand

Demand for gold is "insatiable" in China, says Mr Michael. "China has a strong appetite for gold and that's been the case for years. They like gold because it is a store of value and the state is diversifying its official reserves."

China has been shoring up its gold holdings, increasing central bank gold reserves by 71.4pc in the past 12 months, compared with a global increase in central bank reserves of 2.85pc.

"Individuals and investment companies have also been buying - gold is a liquid, tangible asset and if the Chinese currency weakens, it means investors in gold will be doing very well," Mr Michael said.

Central banks will buy more gold than they sell in a bid to diversify their reserves from their own currencies - boosting demand and, in turn, gold prices.



This post was posted in Gold News