Despite the price correction seen in recent days due to positive US employment figures in May, many investors are still buying gold. The main reasons are the signs of instability coming from the markets (widely proven by the recent collapses of the stock exchanges), the huge volumes of liquidity injected by the central banks and the governments that without too much concern for their public debt are asking for billionaire loans with the goal of stimulating their economies, not always with success. The Fed has also started buying corporate bonds to stimulate the economy and investors fear negative real interest rates shortly thereafter.
Why buy gold?
Although the price of gold has risen significantly in recent weeks – unless corrected in the past few days – buying gold is still a very convenient choice.
American 10-year yields in January were 1.88% and these days are below 0.70%. The bond trend – especially American ones – is very important and has a very close correlation with the price of investment gold. Typically, investors spend their money on bonds because of less volatility than equities. Unlike gold, however, bonds offer periodic yields to investors, this is the reason for the rivalry. An excessive appreciation of their value causes a decrease in their yield as happened recently with 10-year Treasuries. This drop in returns leads investors – discouraged and disappointed – to focus on something else. The number one alternative is always the same, physical gold.
Several indicators have also alarmed the world of bonds, highlighting a very high probability of reaching the US inflation rate of up to 1% within 5 years. Considering the nominal yield of the five-year American bonds set at 0.30%, the real yield (i.e. the net yield calculated by subtracting the inflation rate) would be -0.70%, or a negative yield. Just think of the huge injections of liquidity that many central banks have made to stimulate economies. The ECB specifically lent European banks something like 1300 billion euros. Of course, even the States have asked the central banks themselves for large loans to try to revive their economies, effectively making them even more indebted. Many scared investors are divesting their capitals from government bonds to convert them into gold. Those who already hold gold, on the other hand, remain confident waiting for further increases.
How to understand if it is worth buying gold?
Investors will soon have to monitor several situations. First of all, the trend of the Coronavirus on a global scale. Secondly the US-China conflict and last but not the least the decisions of the Fed. In recent days the American central bank has started to buy corporate bonds with the aim of supporting the global economy undermined by the COVID-19 pandemic. Even though Governor Jerome Powell has repeatedly said that it is not the Fed’s intention to adopt negative interest rates, in reality it would be quite convenient for the central bank to adopt negative real returns. In this way, the Fed would save money to cover the plague of public debt, already disaster. Just think that according to some estimates, American public debt should reach the 130% of GDP threshold by the end of 2020. Even if the Fed did not adopt this move, as explained within a few years, negative interest rates would probably still be applied given the negative outlook for US inflation. In fact, more and more investors would find it beneficial to divest their money from US assets and what would happen would be a very strong weakening of the dollar and a very strong propulsion of gold towards new records.