Firstly, it is important to note the effect that interest rates have on the price of gold, and secondly to highlight the safe haven characteristics gold has in times of turmoil and as an inflation hedge.

If we take a step back, currently the world is in an uncertain place. We are faced with record high inflation globally and an unpredictable war between Russia and Ukraine, which is led by the erratic Russian President Vladimir Putin. The main tool used to combat inflation is through the use of interest rates, which have an effect on how much consumers spend or are willing to spend. The higher the interest rate, the less willing people want to spend as credit becomes more expensive, and the more willing people would like to save as their savings account offers a higher yield. The outcome is downward pressure on prices and leads to lower inflation (vice-versa).

On Wednesday 4 April, The US Reserve (Fed) increased its benchmark overnight interest rate by 0.50%, the biggest hike in 22 years, while also claiming to trim its bond holdings next month as a further step in the battle to lower inflation. Fed Chairman Jerome Powell also crucially said in a policy statement that the Fed rules out raising rates by 0.75% in upcoming monetary policy meetings. “The market expected the May meeting to have a hawkish tilt but the gold market viewed the widely anticipated 50bps hike as dovish relative to hawkish fears,” said Suki Cooper, an analyst at Standard Chartered.

Rate hikes tend to lift bond yields and make zero-yield bullion (gold does not have a yield attached) less attractive by raising its opportunity cost. However, an even more important factor is interest rate expectations. In the previous paragraph we mentioned that interest rates were increased by the Fed, however gold bullion increased in price – this was due to a more hawkish view for the rest of the year

In Conclusion

Concerns around inflation, geopolitical risks and slower growth places gold in a favourable position in the short-to-medium term. Support for bullion also comes in the form of investors now easily investing into gold exchange-traded funds (ETFs) which are taking a pessimistic view of the U.S. Federal Reserve’s ability to cool decades-high inflation without hurting the economy.

The headwinds for gold, which we are well aware of and will mention too, remain a more hawkish Fed than what the market expects and a stronger USD.

The Optimum Investment Group has a bullish view on gold, as we have increased our position to physical gold in September 2021 and now recently again in March this year.

Author:
Gordon Loubser-Hattingh
Portfolio Specialist
Optimum investment Group