Why has the gold price dropped to below US$1,500 an ounce, when everyone knows it’s supposed to be the safe have asset par excellence?
The answer is somewhat nuanced, but has been addressed at some length by mining investment specialists at Baker Steel, the managers, amongst other things, of Baker Steel Resources Trust Ltd (LON:BSRT).
In recent weeks Baker Steel has put out two separate appraisals of the dynamics in the gold market, and both point to a convergence of short-term factors that may not last.
First, the gold price was already trading at a seven year high before the coronavirus hit. That meant that traders looking to cover losses elsewhere in the market, as the S&P and the FTSE plunged, could at least still book gains on gold.
Indeed, allowing for a slight exception for a period of relative price strength last autumn, any traders who bought into gold at any time over the past five years can still sell at a profit. In that sense, what we’re seeing is gold actually performing its safe haven function pretty well, holding value and allowing for the mitigation of losses elsewhere.
The problem is that for a flight to safety right now, the heavy downward pressure exerted by those covering losses elsewhere, is taking off a lot of the shine.
But don’t expect that downward pressure to last.
Those who can cover losses will do so, and it’s unlikely to be a protracted process.
“Gold and gold miners have historically faced volatility and short-term declines during periods of crisis, but have also tended to be one of the best performing asset classes in the aftermath of these crises, as policymakers’ actions to loosen monetary policy, weaken currencies, expand debt and increase spending boosts demand for gold,” says Baker Steel.
We’re already seeing that dynamic play out, as US interest rates have been drastically cut, quantitative easing is on the way, and a host of central banks around the world also implement monetary easing policies.
How effective this central bank action will really be is open to question, but that uncertainty is itself another reason why gold is likely to recover.
As it stands, the speculative positions held in gold equity ETFs like the GDX and other virtual products are now unwinding. But it’ll be a different matter when it comes to holding physical gold.
“On the physical demand side, while the true impact of the virus on gold demand will come to light in the coming weeks and months, we expect to see demand for gold remain robust,” says Baker Steel.
Baker Steel’s commentary goes on to note anecdotal evidence from bullion dealers that demand is rising.
Accordingly, from an investment point of view, the current weakness in the gold price could look like an opportunity from the perspective of an investment vehicle like Baker Steel.
“While the short-term outlook is certainly volatile, we believe gold and gold equities will be substantial beneficiaries of the economic conditions and post-crisis policies which we see beginning to be implemented currently,” Baker Steel commented.
“The conditions are in place for a major potential recovery of the gold sector in the coming weeks and months, as falling real interest rates, currency debasement and vast debt expansion prompts a rebound for the gold price and miners see their profitability increase as margins expand. As active investment managers, Baker Steel’s investment strategies remain well-positioned to lead in this recovery, through our focus on the highest quality gold and silver producers, with effective management teams and a commitment to returns to shareholders.”