Is the gold and precious metals turnaround on? As global markets plunge, bullish momentum is driving up the price of gold and investors are standing up to take notice. The Dow Jones plunged by as much as 531 points on Friday 21 August – a massive drop that had investors scrambling to cash out before taking on further losses.
The decline marks the biggest drop in 4 years, but it wasn’t the only index that was down. All around the world major bourses slid as news spread of weak growth and slack demand in China. Whenever an evaluation of the gold market is undertaken it is especially important to consider the state of equities markets.
Why is gold and precious metals so dependent on the strength or weakness of equites markets? The reasons are many, but it all boils down to one fact about this precious metal: Gold is safe-haven asset when bourses sour. It is the go-to commodity for traders and investors who seek shelter from the storms up ahead.
What is going on in the Gold and Precious Metals Market?
Gold and precious metals are considered a store of value over the long term. Since this precious metal is rare, and stored by central banks around the world, it will always be impacted by geopolitical events and impact on the economy when downturns occur. Gold is the go-to precious metal when stock market corrections take place, or bubbles deflate.
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What we are seeing now is several factors coming together to cause ripples in the markets. First of all, growing uncertainty about the potential interest-rate hike in September by the Fed is causing jitters around the world. Initially, it was thought to be a done deal that interest rates would rise by as much as 0.25 points in September, but now the prevailing opinion is that this will be delayed until December. Regardless, there is no indication that a rate hike will or will not take place. Is the gold and precious metals turnaround on?
There are other factors weighing on the markets. These include the economic slowdown in the Chinese economy. Equities markets have taken their cue from China and they too have come in for some tap. With slack global demand, commodities have hit fresh lows. The price of crude oil, for example, has retreated to the key $40 support level for the first time in 6 years.
Since late May 2015, the Dow Jones has shaved off 10 percentage points. All around the world, bourses were reeling – from Europe to Asia and beyond. In the U.S., the NASDAQ slipped 6.8% while the S&P 500 index dropped 5.7% for the week. Bear in mind that these sharp losses in U.S. equities markets have been more than offset by consecutive years of double-digit growth.
With gold, we know that low equities prices fuel a higher gold price. Rising interest rates are bad for gold in the sense that gold becomes less attractive when interest on capital can be earned elsewhere. We also know that a rising USD generally makes it difficult to grow gold demand and is consequently bad for gold and precious metals.
The Economic Downturn in China
When the announcement was made that manufacturing activity in China was at a 6-year low (July 2015), investors were sent scampering for cover. China is the world’s second largest economy and it is the leading importer of many commodities like copper, coal, crude oil, agricultural produce, gold, precious metals, and others.
When Chinese demand decreases, the mining and agricultural sectors of countries from Australia to South Africa, Brazil and Mexico suffer. Mass layoffs, declining revenues, and lower prices add tremendous pressure to markets. This uncertainty reflects in lower earnings for these companies on the stock markets.
Hence equities prices decline and mass selloffs take place. At this juncture, gold is the beneficiary of such market turbulence. We have seen a steady uptick in call options on gold at binary options brokers in recent weeks. Traders cite the classic binary trading strategies in making decisions to go long on gold and short on equities.
The Chinese Elephant in the Room
The Chinese economic slowdown has many deeply concerned that the 7% growth forecast for 2015 is unrealistic and overly inflated. That many fund managers, economists, and analysts do not believe that China is growing at 7% is now becoming mainstream opinion too.
With inflation all but non-existent in the U.S. the Fed has not shown any concrete direction as to where it wants to go. September rate hikes are less likely now with global markets in a tailspin. Crude oil prices have hit rock bottom and broken through support levels that many never foresaw.
The currencies of multiple emerging market economies such as Brazil, South Africa, Chile, Colombia, Indonesia and others have tumbled in recent months and this trend is set to continue under prevailing economic conditions. And all throughout, the gold and precious metals turnaround has silently retained its luster – growing brighter with every passing day. The gold price has typically risen as the 10 year Treasury note yield has plummeted. Investing in gold is a good alternative investment strategy.
The price of bullion hit $1,168 per ounce on Friday, August 21. That is a price that was last seen back in 2013. The gold turnaround might be on track and it might be time to invest in gold again.
While precious metals retreated since then (to $1,153) it remains substantially higher than $1,080. We are clearly witnessing an extended period of market turbulence ahead and for gold to rise no interest rate hikes must take place.
It should be pointed out, however, that weak global demand is fueling massive capital outflows from commodities markets. This will no doubt impact on gold too. For now, markets can rest assured that a gold price rally will continue. Short positions are being sold and investors are digging in their heels for a rally as stocks continue to slide and investing in gold to pick up.