Asset Allocation Strategy
15 April 2024
Gold Rush
Venturing into Uncharted Price Territory

Gold has had a stellar run this year, reaching all-time highs of $2375/oz. 

Indeed, gold is outperforming most major equity markets, with a gain of 15% year-to-date. Despite Fed easing expectations being scaled back, US real rates rising and the US dollar generally being strong, the current rally is being supported by a number of fundamentals.

Figure 1: Gold reaches record highs in April

It appears that increased central bank buying has helped push the gold price to record (nominal) highs, with rising geopolitical tensions and upside inflation surprises so far in 2024 likely contributing factors. Although gold is potentially overbought in the short term, the prospect of lower interest rates ahead, persistent geo-political tension and continued central bank buying should drive some residual upside in the gold price over the next 6-12 months. 


Central Banks Have the Gold Bug

Figure 2: Central bank buying has been an important feature in the rally

Central bank demand, a key driver of gold in recent years, maintained its momentum into the close of 2023 and into the first quarter of this year. Annual (net) demand came to 1,037t, just short of the record set in 2022 of 1,082t. Two successive years of over 1,000t of buying is testament to the recent strength in central bank demand for gold. 

Gold’s performance during times of crisis and its role as a long-term store of value (primarily against long-term corrosive effects of inflation) are key reasons for central banks to hold gold. Central banks attempting to diversify away from government bonds is presumably another driver behind increased purchasing.

As well as extending the buying trend to 14 consecutive years, the breadth of reported buying among central banks broadened in 2023, with the majority of purchases coming from emerging market (EM) central banks. Notably, the People’s Bank of China (PBoC) regained its place as the largest single gold buyer, as it made the highest year of reported additions since 1977. 

Looking ahead, the buying trend that has been in place since 2010 shows little sign of abating, even if a third consecutive year of ~1,000t net purchases may be unlikely. The proportion of gold to total reserves is still low for many central banks, reinforcing the idea that there is scope for this trend to continue – a key tailwind for the gold price. 

Investor positioning, on the other hand, remains reasonably low based on exchange traded fund (ETF) flows. With gold reaching all-time highs, the default assumption may be that positioning is crowded, as it appeared to be in 2011, for example (see figure 3). But that is not the case. Low investor positioning also augurs well for the rally to continue. In contrast to 2011, there should be space for allocations to continue growing and for prices to sustain the move higher. 

Figure 3: With investor positioning far from crowded, there is space for gold allocations to rise

Persistence of Geo-political Risks

A tense geo-political landscape adds to the list of reasons why investors might want to hold gold. With so many moving parts, it is difficult to have strong conviction on how things are going to play out. Holding gold as a hedge against any potential escalation in geo-political risks seems reasonable in this environment. 

As a safe-haven asset, gold’s tendency to protect against equity market downside is reasonably good. While gold has shown some brief vulnerability in the epicentre of market dislocations, its performance has been mostly solid when measured against the peak to trough performance of equities in major corrections.

The US Presidential election in November is also gaining increasing focus, bringing concerns about US debt and the fiscal deficit to the surface. Taken together, these factors make quite a strong case for holding gold as part of a diversified portfolio. 

Figure 4: Gold has typically performed well in equity market corrections
S&P500 Performance Gold price performance A$ Gold price performance US$
2007/09 -56 72 28
2011 -18 20 32
2018 -18 9 6
2020 -34 16 -4
2022 -24 4 1
Average -30 24 13

Source: Refinitiv, Wilsons Advisory.


Decoupling from Real Rates

It is interesting that gold has decoupled from real interest rates recently. However, we think that the expectation of Fed policy rates coming down will remain a driver for the bullish sentiment toward gold. Looking at previous Fed easing cycles since 1980 enables us to see how gold performed immediately before the first rate cut and during the 2 years that followed. In doing so, we find that gold is generally able to sustain strong gains for 2 - 3 quarters after the Fed starts cutting rates, gaining as much as 13.8% on average. 

Fed cutting cycles tend to correlate with a weaker US$. This likely explains the tendency for a strong gold price to correlate with both a falling US$ and lower interest rates. 

The prospect of a Fed easing cycle in 2024, leading to a weakening trend in the US$ over the coming year, does suggest a supportive cyclical backdrop for the gold price, in our view. 

Figure 5: US$ "regimes" have tended to influence the gold price

Given the 13% year-to-date rally, a risk worth highlighting is the potential that a lot of the strength has been frontloaded in anticipation of Fed easing. While we do not think this necessarily means we will move into a gold bear market, further gains may be more muted than previous Fed easing cycles suggest. 

The prospect of US recession, the big concern of 12 months ago, looks unlikely but still cannot be ruled out as a plausible risk case over the next 12 months. Recession risks will escalate if the Fed leaves rates too high, for too long, in its determination to quell inflation. 

For now, a too hot rather than too cold US economy looms as the biggest near-term risk to the US market. In this case, the Fed pivots to a hawkish stance and the US$ re-strengthens, posing downside risks to gold prices. Our base case continues to be that inflation will recede sufficiently for the Fed to start cutting this year.

Figure 6: Fed easing is positive for gold

Golden Opportunities

We continue to see an important role for non-correlated alternative assets and have edged up our alternatives weighting from neutral to overweight in response to our trimming of the fixed interest allocation. We maintain a well-diversified alternative allocation spread across private equity, private debt, market-neutral hedge funds and gold.

From a portfolio perspective, physical gold tends to have a low and, at times, negative correlation to other asset classes (especially equities), particularly in times of acute stress. Therefore, gold can potentially complement other portfolio “hedges” such as high-grade fixed interest. 

Our long-standing view of a soft landing remains our base case for the coming year. We see the effects of a soft landing as positive for gold. An orderly deceleration in US growth, the prospect of lower interest rates ahead and a likely declining US$ would, all things equal, see gold appreciate. Together with persistent geo-political tension and continued central bank buying, we see some residual upside in the gold price over the next 6-12 months.

From this perspective, we retain a moderate exposure to physical gold via ETFs. With the AU$ looking undervalued, we see a hedged version as attractive to gain exposure to the US$ move in the gold price. Physical gold holdings can, of course, be complemented with an additional allocation to gold equities. We note Australian gold equities have significantly lagged the physical gold price rally this year.

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Written by

David Cassidy, Head of Investment Strategy

David is one of Australia’s leading investment strategists.

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