The last time we owned a dedicated position of gold in our portfolios was early 2013. Over the last six and a half years gold prices have generally disappointed, with the exception being the last few months. However, the outlook for the commodity may continue to brighten, at least according to the research we have been conducting.
The case for owning gold can be made on three fronts: renewed dovish Fed policy, anticipated softening of the US dollar, and as a safe-haven in the midst of geo-political turmoil.
Earlier this year the Federal Reserve paused its cycle of rising interest rates. In June the Federal Open Market Committee (FOMC) published its “dot plot” giving us a peek at where the Federal Reserve believes interest rates are headed. The direction indicated is down.
Lower interest rates imply a less robust economy, which in turn, puts pressure on the US dollar. Since gold and the dollar are inversely related, a decrease in dollar support normally translates into a rise in gold prices. In addition, declining interest rates mean lower (and sometimes negative) yielding bonds. Gold’s lack of a dividend becomes less of a concern when there are fewer opportunities for income elsewhere.
Moreover, if further accommodative policy by the Fed leads to higher inflation, gold could be a winner again, as gold tends to serve as a hedge against rising inflation expectations that erode the value of the dollar.
Gold is also a safe-haven during periods of uncertainty and geopolitical risk. Global challenges and turmoil have been rising this year (trade wars, Brexit, confrontations with Iran, etc.). Since gold is generally uncorrelated with equities, it provides diversification when geopolitical tensions make equities appear riskier.
And finally, the purchase of gold by global central banks for foreign reserves has been increasing at the expense of the dollar in recent years, reinforcing the demand for gold. At the same time, those consumers who covet gold jewelry and other items ironically tend to find gold more attractive as the price goes up. This allows demand to keep up with supply and gold to remain well bid.
What could go wrong for gold? If the US economy strengthens along with the dollar and the Federal Reserve backs away from its accommodative policies, the case for gold is weakened. It wouldn’t be the first time that the dollar surprises to the upside. Nor is the Federal Reserve’s next move entirely clear. But this uncertainty isn’t necessarily bad for gold. Afterall, under the right circumstances, gold can be a hedge in both strengthening and weakening economies. And if nothing else, it can provide diversification in an increasingly unsettled world.
Betsey A. Purinton, CFP® is Managing Partner and Chief Investment Officer at StrategicPoint Investment Advisors in Providence and East Greenwich. You can e-mail her at firstname.lastname@example.org.
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