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Fear Over Government Debt May Sustain Gold Bull - BLOOMBERG

JUNE 25, 2024

Bank of America analysts think the yellow metal could hit $3,000 an ounce within 18 months.  

What’s going on in the gold market?

It’s been quite an exciting year so far for gold. The price of the yellow metal is up about 12.9% in the year-to-date (in US dollars). That’s been eclipsed by silver at 24.5%, by the Nvidia-fuelled Nasdaq (19.4%) and S&P 500 (15.8%) and the Argentinian stock market (up a mere 49.5%), but otherwise, it’s a pretty decent showing for an inert lump of metal.

Last time I wrote about gold, about a month ago, turned out to have been the peak for the year so far around $2,425 per ounce. Since then it’s been becalmed. China’s central bank — which has been blamed or credited with the rising gold price in recent months — has recently taken a breather from buying. So what might be next for the yellow metal?

Well, at least some analysts think it still has further to go. The Bank of America team put out a note this morning suggesting that gold could hit $3,000 an ounce over the next 12 to 18 months. To be clear, this in itself means very little. No one has a crystal ball, so no one knows what the price of anything will be in the future. But forecasts still have their uses.

Firstly, you can use them as a test of sentiment. Once upon a time, $3,000 an ounce for gold would have seemed a bit like $200 oil — an extreme call, and likely a sign of a top. Now that $3,000 is less than 30% away, it doesn’t seem as drastic.

Secondly, you can listen to the arguments being made and decide whether or not you think they make sense. The key, says Bank of America, is investment demand. Data from the trade body, the World Gold Council, suggests that central banks are feeling increasingly warm towards gold as a useful financial asset rather than a historic keepsake.

But it’s not just central banks. When and if the Federal Reserve eventually starts cutting US interest rates, that may give a boost to demand from developed-market investors.

During the current rally they have mostly been selling down their holdings of exchange-traded funds, but total ETF holdings appear to have steadied over the last two months, as the chart below suggests.

Fear of Accidents

Another point made by the Bank of America team is that a nasty shock in the US Treasury market is a “building tail risk”. In other words, it’s not very likely, but it is becoming a bit more likely as time goes by.

I am not personally very persuaded by arguments that the US dollar is likely to be supplanted as the world’s reserve currency in the imminent future. I’ve heard it many times before and the response remains the same as it has over the last 30 years or so: “What’s the alternative?”

All the same, that’s no justification for complacency. We’ve seen how quickly France flipped from being the budding new financial centre of Europe to replacing Britain on the global naughty step.

More importantly, it doesn’t take an actual calamity in the US Treasury market to boost demand for alternative safe havens. It just takes rising concern that there might be one. The US debt market is itself less liquid than it once was. This has a number of causes but, as I understand it, mostly relates to regulations put in place after the financial crisis.

In any case, when you take a more fragile Treasury market and throw in the sticky political situation in the US, combined with a high and arguably unsustainable debt trajectory, you have fertile ground for fear of accidents.

Of course, it’s not just the US economy that’s grappling with balance-sheet difficulties. You’d be hard-pressed to find a developed economy that isn’t. For all that various think tanks keep lambasting Labour and the Conservatives for their vague manifesto promises and fantasy policy costings, Britain is far from being the worst offender.

All of this debt is another good reason to believe that government policy across the board will err on the side of the inflationary. Because if deflation takes hold, then the debt only gets bigger (in “real” terms) and thus more crushing. And as long as we’re in a more inflation-prone environment, the “precautionary” bid for gold seems likely to endure.

At the recent live recording of Merryn Talks Money, guests Charlie Morris of ByteTree and Alexander Chartres of asset manager Ruffer, explained more on this and why the economic backdrop is ripe for “anti-fragile” assets including gold — and Bitcoin. Listen here for more details.


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