The US-China trade negotiations and government bond yields have been heading south in tandem in recent months, while the gold price has been climbing higher. Outpacing other precious metals and safe-haven currencies like the Swiss franc and Japanese yen, gold is up by 17% year to date and has broken past the $1,500 mark for the first time since April 2013.
This is the other side of the coin from late last year when we spoke about what was holding gold back. As I outlined in that blog, one of the key drivers of this safe-haven asset is real yields, in particular US real yields, as they define the opportunity cost for holding gold versus other interest-bearing assets. As you can see in the chart above, US 10-year real yields have gone through the floor, recently turning negative for the first time since 2016. The main catalyst for this has been the sharp dovish shift from central bankers amid economic growth concerns and lower inflation expectations.
Another factor at play is the increasing fear around the US-China trade tensions. With flare-ups sending shudders through markets on several occasions this year, it’s clear that investors are worried about the potential knock-on effects to global growth, and the heightened risk-off sentiment has pushed more investors towards gold.
Currency intervention is the latest weapon of choice in the trade war and is another catalyst for the gold rally. As Willem explained in a recent blog, the US has branded China a currency manipulator for letting the Chinese yuan depreciate past the important level of seven, since a weaker yuan can make China’s exports more competitive and partially offset the effects of tariffs.
The threat that the US will retaliate by driving the dollar lower has given gold another leg up. As the ‘hardest’ currency around, when the dollar loses value investors typically turn to gold as the ultimate store of value. A weaker dollar also makes gold more attractive to foreign investors.
Going for gold
Additionally, the People’s Bank of China has relayed on a number of occasions that it plans to diversify its reserves away from US Treasuries into other foreign bonds and into more gold.
This suggestion of China shifting more of its reserves into gold may be more credible than it first seems. If you compare China’s gold reserves as a percentage of its total foreign exchange reserves with that of other countries, China is starting from a very low base – it was only in 80th place in 2018, according to the World Gold Council, versus the US in first. This gives China lots of room to manoeuvre. Recent developments could admittedly offset this somewhat, as China has started to severely restrict gold imports by consumers as a way to help control capital outflows.
Against this backdrop, we have sold our position in gold. Why? It’s not that we think the state of the world will turn for the better soon; as Emiel points out, we have recently increased our recession probabilities.
The reason is instead the price! As John alluded to in a Bloomberg interview a few weeks ago, at these elevated levels we think now is a good time to take profits on our tactical gold position. Research suggests that the safe-haven characteristics of gold often lead investors to make short-term allocations to the metal, so it makes sense to crystallise profits in tactical portfolios and wait on the sidelines until a potentially more attractive entry point opens up once again.
It’s never easy saying goodbye to a safe-haven asset like gold in times of market stress, but we do think discipline is required to get the best outcome for our clients.
(Photo credit: MikiMedia/Annemieke de Keijzer)