Investors who bought gold on its way down or simply held it after the top haven’t seen a substantial reprieve in their current losses. It’s entirely possible there won’t be a letup anytime soon. The reasons are simple: gently rising interest rates and mild, if any, inflation.
As the Fed moves to taper its quantitative easing program and purchase fewer bonds — buying $75 billion instead of $85 billion — it is only logical that interest rates would go higher. After all, the biggest buyer on the planet has told everyone it’ll buy less.
Interest rates moved up during 2013, and are still moving in that direction. This isn’t true on the short end of the curve, where the Fed has pledged to hold down rates forever (or at least for the next two years), but it is the case for maturities longer than five years.
However, this doesn’t mean that interest rates will fly to the moon…
Instead, I expect interest rates will gradually move higher by 0.5% to 1%.
That said, I do expect rates to fall back again with the next downturn in the economy, but that’s a story for another day.
As for the yield on gold… well… there isn’t one. As interest rates move higher, gold owners risk falling farther behind those who own interest-bearing securities and assets.
At the same time, inflation is more than just tame, it’s downright housebroken. The Fed has printed more than $3 trillion over the past five years (an amazing amount!) and yet inflation remains less than 2%.
This is a testament to the deflationary forces in our economy, where wages remain under pressure and consumers continue to work down debt. This isn’t a good thing for gold. The metal loves an inflationary run where the currency loses value. During times of low inflation, or even deflationary pressure, gold will naturally drift lower, just like other commodities.
Speaking of the currency, the two trends mentioned above — gently rising interest rates and very mild inflation — are the perfect recipe for a strengthening dollar. This gives investors confidence that their dollars won’t lose a lot of purchasing power, while also attracting more investment because of higher yields.
Of course currencies and gold are generally mirror images of each other, so as the dollar strengthens, well… you know.
As I do every time I talk about gold, I will point out that I’m not talking about the gold people hold as a protection against calamity. Whether or not gold would serve a purpose in the event of a total financial collapse is debatable (how much gold do you trade for bread?), but I understand why people hold a certain amount in case of such an event. It helps them sleep at night.
Instead, I’m pointing out the risks of people holding gold as an investment, estimating the price will go higher so they can cash in for funds to use for other things.
While gold might bounce a bit (10% or so) from its current lows at this point in our economy, it appears that the trends are all going against the metal. Expect it to have another difficult year, no matter what celebrity spokespeople tell you on financial news networks.
P.S. Harry talks more about gold’s future prospects in an interview he recorded recently. He also talks about how he sees oil flowing down the same path gold is on. Listen here.
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Ahead of the Curve
Last Friday I asked you the question: Would you rather be a landlord or the bank?