Fears of inflation and momentum touch off Gold!

Fears of inflation and momentum touch off Gold!

The gold price rally gathered momentum driven by continued fears over inflation, a weaker dollar, lower real rates and recovered its Q1 losses, finishing May virtually flat y-t-d on the back of a significant technical breakout.

Sentiment toward gold continued to improve as net positioning on COMEX futures rose to its highest level since February whereas Gold ETFs recorded their first monthly inflows since January and the highest since September. Overall holdings in these products rose by US$3.4bn (61.3t. 1.7% AUM) to US$222bn (3,628t).

Interest rates, a major driver of gold’s performance so far in 2021, continued to exert some influence on gold in May. Ten-year sovereign bond yields, as well as US ten-year breakeven rates, only moved marginally during the month, reflecting the continued uncertainty over the economic recovery and inflation, although they remain higher year-to- date. The slight decline in yields helped to increase the attractiveness of holding gold, especially considering gold’s heightened sensitivity to rates that we have seen more recently. Moreover, real rates dropped as inflation expectations, as signalled by TIPS breakevens, increased.

In China, holiday- and wedding-related purchases supported consumer demand in May while in India, consumer demand was heavily impacted by COVID-related lockdowns.

A holiday-related sales boom provided support for consumer demand during the month. To stimulate domestic consumption China kicked off the 2021 National Consumption Promotion Month on 1 May, the first day of the five-day International Labour Day holiday. In Shanghai, for instance, sales reached RMB19.65bn, 30.4% higher y-o-y and 9.6% higher than 2019.

Various reports indicate strong sales of gold jewellery and investment products in many cities, driven primarily by holiday- and wedding-related demand, a decline in the local gold price, and expectations of a further price rise to come.

Furthermore, sizeable purchases from Thailand and Hungary in recent months support expectation for healthy net purchases by central banks this year and looking forward, inflation and tightening concerns will be important drivers of gold in the near term, with the upcoming Fed and ECB meetings in the spotlight.

Market volatility spikes were also a notable driver of the gold price. The jump rattled global markets, due to concerns that monetary and fiscal tightening could occur earlier than anticipated. In Europe, the debate on inflation and tapering rages on as eurozone inflation rose to 2% in May, past the ECB’s “below but close to 2%” target. Elevated volatility in mainstream assets, along with eye-watering swings in cryptocurrencies, boosted some safe-haven flows into gold.

The impact to gold’s performance in May came only from a higher risk appetite through equity and bond flows, and the effect of an elevated benchmark due to positive returns in April.

Fears over inflation, and whether it will be transitory or not, continue to cast a dark cloud over markets and should be supportive for gold in the short term. And expectations regarding monetary policy are key. Markets are closely monitoring economic growth metrics, as well as central bank statements, searching for clues as to the likely timing of the tapering of asset purchases. For now, it seems that accommodative policies will remain in place, creating support for gold investment. In particular, gold investors will likely be watching statements coming out of the Fed’s mid-June meeting, as well as those from the ECB and other major central banks.

Gold’s direction is likely to continue to be driven by two competing forces. On one hand, accommodative monetary policy will keep the opportunity cost of holding gold low. And should higher levels of inflation become entrenched, gold’s appeal as a hedge against a reduction in purchasing power would likely be enhanced. On the other hand, higher inflation would ultimately lead to tightening monetary policy, lowering gold’s appeal when compared to other, yield-bearing assets.

The key will be whether inflation is just a transitory effect or whether global fiscal stimuli and ballooning deficits result in more structural inflation, for which investors may not be fully prepared. Net long positioning on COMEX and gold ETF flows will continue to be useful metrics in gauging sentiment, particularly in relation to inflation and potential tapering.

For more information contact us through our web page www.liemeta.com.cy