Gold’s Worst Enemy

By Charlie Bilello

20 Mar 2021

Gold has been having a tough time of late, down 20% from its high last August.

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With government debt going through the roof and the Fed maintaining the easiest monetary policy in history, many investors are confused by the move lower. This was supposed to be the perfect environment for Gold.

So why is it going down?

When it comes to Gold and its movements, the answer is never straightforward. Gold is very much an enigma, showing little correlation to almost everything over time (stocks, bonds, other commodities, etc.).

But there is one factor, more than any other, which has proven to be Gold’s worst enemy: rising real interest rates.

Since 1975 (when Gold futures began trading), there has been a clear inverse relationship between Gold and real interest rates. Gold has generated negative returns during periods of rising real interest rates (-4.3% annualized) and positive returns during periods of falling real interest rates (+14.8% annualized).

In any given month, the odds of a positive return for Gold are significantly higher when 10-year yields are falling as opposed to rising.

Rising real interest rates are problematic for Gold because it increases the opportunity cost of holding the metal. This makes sense intuitively as Gold pays no interest or dividend and will therefore be less attractive compared to risk-free bonds when real interest rates are rising.

Thus far we’ve limited our discussion to changes in real yields. What about absolute levels – is there any relationship there?

There seems to be. What we find is that on average Gold has performed worse during periods of high real yields and better during periods of low real yields.

What environment are we in today?

Very low but rising real yields since last August, which is precisely when Gold peaked. In contrast, the collapsing real interest rates leading up to and entering the covid-19 recession were the perfect environment for Gold.

In explaining movements in the price of Gold, real interest rates are only one part of a complex story. But all else equal, higher/rising real rates seem to be worse for Gold than lower/falling real rates.

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Disclaimer: All information provided is for educational purposes only and does not constitute investment, legal or tax advice, or an offer to buy or sell any security. For our full disclosures, click here.

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