2023-10-14 09:48:03 ET
Summary
- Gold has underperformed despite geopolitical turmoil due to being "overvalued" by key metrics.
- The strength of the US dollar and the high demand for it from international investors is a major obstacle for gold.
- Gold is being ignored as investors chase higher bond yields and it has already discounted future increases in US inflation.
With all the head-spinning events taking place right now on the geopolitical front, investors are having a hard time understanding why gold—a traditional safe-haven in times of turmoil—has underperformed. Given the extent of the fear in the news headlines, yellow metal prices should probably be at record highs.
But what market participants often fail to see is that gold is “overvalued” by a couple of key metrics, which partly explains its failure (by and large) to respond to the growing number of international wars and other political and economic developments (notably the persistence of inflation).
Consider the GraniteShares Gold Trust ETF (BAR), which closely tracks the gold price. As I noted back in May in a previous Seeking Alpha article , since gold is priced in dollars, the relentless strength of the U.S. dollar index was a big reason why this gold ETF would likely face continued headwinds going forward as the dollar is in high demand from international investors who are still liquidating emerging market stocks and other financial assets and moving into the safety of the greenback.
BigCharts
Fast-forward to October, and gold still faces a major obstacle from the strong dollar due to the yellow metal’s currency component. BAR has rallied in recent days, as the above chart shows, but this is likely due more to the impact of war-related short covering and short-term panic than a genuine reversal of gold’s big-picture trend.
Then there’s the competition offered to non-yielding bullion by a runaway rally in U.S. Treasury yields. As investors chase higher bond yields, gold is largely ignored and has suffered the negative effects of the 16-year highs in the 10-year Treasury Yield Index (TNX).
BigCharts
Beyond the fact that gold is being challenged by bond market and currency strength is the observation some analysts have made in recent weeks concerning gold’s unresponsiveness to lingering inflation in the U.S. This is the case made by many analysts who point out that the precious metal has likely already discounted any additional future increase to the U.S. inflation rate.
However, a much more compelling explanation for gold’s sluggish performance was offered by economic blogger Scott Grannis, who pointed out that according to inflation-adjusted standards, gold is actually “expensive.”
Indeed, he goes on to note that over the last century, gold as measured in today’s dollars has averaged about $780 an ounce. Today it’s worth 150% more than that today, or $1,940 (see chart below for an illustration). This suggests that until interest rates come down significantly, investors won’t have much of an incentive to load up on non-yielding gold at current prices.
Moreover, Grannis goes on to point out that 5-year Treasury Inflation-Protected Securities, or TIPS, tend to lead gold prices. Specifically, the inverse of the TIPS real yield shows a long-term tendency to precede major long-term moves in the gold price. As the following chart shows, there’s a conspicuous spread between gold and TIPS, with the latter suggesting the former asset could come down even further before eventually attracting attention from bargain-hunting investors.
In view of the factors mentioned here—most notably U.S. currency and Treasury yield strength—I’m recommending that investors avoid the temptation to start major long-term positions in gold. If the analysis discussed here is correct, a much better opportunity for purchasing gold should occur when inflation begins to significantly diminish, as reflected by falling Treasury yields and a weaker U.S. dollar.
For further details see:
Gold Is Not An Ideal Long-Term Buy Yet