The The The

The appeal of gold as an inflation hedge

Ole Hansen

Head of Commodity Strategy

Summary:  Gold’s ability to defy gravity amid rising US real yields continues and so far, any weakness below $1800 has quickly attracted fresh buying. As the headline suggests we see part of the renewed demand for gold being driven by investors seeking a hedge against inflation and not least against the current optimistic view that central banks will be successful in bringing down inflation. Adding to this the recent turmoil in bonds and stocks as well as a general strong investment demand for commodities.


Gold’s ability to defy gravity amid rising US real yields continues and so far, any weakness below $1800 has quickly attracted fresh buying. The most recent and biggest challenge was in the aftermath of last month’s FOMC meeting where a surprisingly hawkish change in tone sent the yellow metal sharply lower before a steady recovery has taken the price back to unchanged for the year. Gold’s small dip last year after averaging 21.7% the previous two years was driven by long liquidation from asset managers amid strong equity markets and low volatility as well as the belief rising inflation would turn out to be transitory, and not pose a longer-term threat to growth and price stability. 

Source: Saxo Group

Towards the end of last year, a major change occurred at the US Federal Reserve after President Biden’s team likely made it clear the if Team Powell wanted to lead the Fed, it needed to focus on the +150 million Americans at work seeing their pay reduced every month in real terms by the Fed’s inaction on inflation, rather than focusing on maximizing accommodation to support the remaining few million unemployed in finding work. Both Powell and Brainard (the incoming Vice-Chair) complied and forcefully so and the hawkish shift in language helped send US ten-year real yields sharply higher while the market priced in a rapid succession of rate hikes, with more than five now priced in for 2022.

Since then gold, the most interest rate and dollar sensitive commodity has managed to withstand a 0.6% rise in US real yields. Apart from a small bid from current geopolitical concerns we see several other drivers emerging, some of which are highlighted below.

Gold has during the past few months been exhibiting rising immunity towards rising real yields with investors instead focusing on hedging their portfolios against the risk of slowing growth and with that falling stock market valuations as well as increased turbulence in the bond market. Even more aggressive rate hikes may end up being positive for gold as it will further raise the risk of a policy mistake from the Federal Reserve as it increases recessionary risks.

Gold’s credentials as an inflation hedge as well as a defensive asset have received renewed attention with rising stock and bond market volatility amid a market adjusting to a rising interest rate environment. At the same time, we believe inflation will remain elevated with rising input costs, wages and rentals being a few components that may not be lowered by rising interest rates. With this in mind gold is also increasingly being viewed as a hedge against the markets current optimistic view that central banks will be successful in bringing down inflation.

The commodity sector has shown renewed strength during the past year with strong fundamentals underpinning many individual commodities where several will be facing a prolonged period of a mismatch between rising demand and inelastic supply. With some of the worlds most tracked commodity indexes holding between 5 and 15% of their exposure in gold, any demand for a broad exposure to the commodity sector will automatically generate additional demand for gold.

Source: BCOM & SPGSCI

While asset managers as seen in the ETF chart below are showing signs of renewed appetite, the price action has yet to trigger any increased interest from leveraged money managers who often focus more on momentum than fundamentals. In the week to February 1 they held a net long in COMEX gold futures of just 62,500 lots or 6.5 million ounces, some 78% below the record peak from 2019. Money managers focusing on momentum tend buy into strength and sell into weakness, and in order to attract increased demand from leveraged trading accounts, gold as a minimum needs to break above the 50% retracement of the 2020 to 2021 correction at $1876 which is also the 2021 high. In the other direction, failure to hold above $1750 may signal a deeper correction.

Disclaimer

The Saxo Bank Group entities each provide execution-only service and access to Analysis permitting a person to view and/or use content available on or via the website is not intended to and does not change or expand on this. Such access and use are at all times subject to (i) The Terms of Use; (ii) Full Disclaimer; (iii) The Risk Warning; (iv) the Rules of Engagement and (v) Notices applying to Saxo News & Research and/or its content in addition (where relevant) to the terms governing the use of hyperlinks on the website of a member of the Saxo Bank Group by which access to Saxo News & Research is gained. Such content is therefore provided as no more than information. In particular no advice is intended to be provided or to be relied on as provided nor endorsed by any Saxo Bank Group entity; nor is it to be construed as solicitation or an incentive provided to subscribe for or sell or purchase any financial instrument. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. As such no Saxo Bank Group entity will have or be liable for any losses that you may sustain as a result of any investment decision made in reliance on information which is available on Saxo News & Research or as a result of the use of the Saxo News & Research. Orders given and trades effected are deemed intended to be given or effected for the account of the customer with the Saxo Bank Group entity operating in the jurisdiction in which the customer resides and/or with whom the customer opened and maintains his/her trading account. Saxo News & Research does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Bank Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. To the extent that any content is construed as investment research, you must note and accept that the content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication under relevant laws.

Please read our disclaimers:
- Notification on Non-Independent Investment Research (https://www.home.saxo/legal/niird/notification)
- Full disclaimer (https://www.home.saxo/en-hk/legal/disclaimer/saxo-disclaimer)

Saxo Capital Markets HK Limited
19th Floor
Shanghai Commercial Bank Tower
12 Queen’s Road Central
Hong Kong

Contact Saxo

Select region

Hong Kong S.A.R
Hong Kong S.A.R

Saxo Capital Markets HK is a company authorised and regulated by the Securities and Futures Commission of Hong Kong. Saxo Capital Markets HK Limited holds a Type 1 Regulated Activity (Dealing in securities); Type 2 Regulated Activity (Dealing in Futures Contract) and Type 3 Regulated Activity (Leveraged foreign exchange trading) licenses (CE No. AVD061). Registered address: 19th Floor, Shanghai Commercial Bank Tower, 12 Queen’s Road Central, Hong Kong

By clicking on certain links on this site, you are aware and agree to leave the website of Saxo Capital Markets, proceed on to the linked site managed by Saxo Group and where you will be subject to the terms of that linked site.

Apple, iPad and iPhone are trademarks of Apple Inc., registered in the US and other countries. AppStore is a service mark of Apple Inc.

Please note that the information on this site and any product and services we offer are not targeted at investors residing in the United States and Japan, and are not intended for distribution to, or use by any person in any country or jurisdiction where such distribution or use would be contrary to local law or regulation. Please click here to view our full disclaimer.