why is gold doing so badly?19 Feb 2021 17:01
Best explanation I have found so far. A nugget that I will leave you with this week:
It’s dropped quite sharply this week. Isn’t gold meant to be the ultimate inflation hedge?
It’s a little bit more complicated than that. More specifically, gold is a play on falling real interest rates (that is, interest rates after inflation is accounted for). In other words, gold does well when inflation is going up more rapidly than interest rates. That’s not happening at the moment. At the moment, interest rates are going up faster than inflation expectations, so real interest rates are rising, even if they are still pretty negative. On top of that, it’s a “risk-on” market (or it has been). People want to own things that are going up. Exciting things. Gold is more of a “risk-off” asset.
But if this goes the way I expect (and I could be wrong, of course), then inflation will end up rising faster than bond yields, because the Fed will act to stop interest rates from rising too fast, simply by buying more bonds (or threatening to, as the Bank of Japan has done). That’s “yield curve control” and financial repression, and it’s the way you stop a government from going bankrupt even when it spends lots of money. If that happens, then real yields will fall again (because inflation will rise while interest rates will remain static or even fall), and gold will rise (if history is any guide). In short, I’d hang on to it.
The part of the market that is more vulnerable to this dynamic (I think) are the “jam tomorrow” stocks. Tesla is the most obvious, but the tech sector is full of them. These are companies that have benefited from very low interest rates and very low inflation or deflation.
Even if interest rates are kept low, investor patience with these stocks will fade because discount rates will still have to go up to account for inflation, meaning that the value of their future earnings will fall in the present. That means the companies simply won’t be worth as much. Gold doesn’t have this problem because it doesn’t generate any earnings and so can’t be valued on a discounted cashflow basis.
The stocks that should do better are the ones that are plays on “real” assets (miners and big oil and maybe even real-estate investment trusts (Reits), though that’s a trickier call in this environment) and the ones that benefit from higher interest rates (banks).
We’re already seeing some of this playing out. Banks have had a good week or so in the UK, which should continue with them gearing up to pay dividends again. And as for the mining sector, both Rio Tinto and BHP just announced record dividend payouts. I’m old enough to remember the days when the idea of a miner being an income stock was laughable.
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