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August
29
2023

Why Gold Keeps Outperforming (Despite Interest Rates)
Peter Reagan

Gold’s outperformance is becoming a hallmark of this hiking cycle

What’s the most interesting thing about the current hiking cycle? We’re tempted to go with some of the more obvious facets. Interest rates have seen their steepest rise since the 1970s. Maybe the perpetually-increasing number of recessionary risks this has caused instead?

Today, we’ll talk about how gold has performed during the cycle, and how it continues after Fed Chair Jerome Powell’s speech on Friday. Then, Powell upset expectations by actually signaling even more rate hikes. The Chair said the Fed is willing to keep interest rates high and raise them further because, in his words, inflation remains too high.

No arguments there!

However, basic economics tell us the price of gold should be reeling on this news. (And you might find a few headlines that continue to say it will, blatantly ignoring the data.)

Over the past week, gold went from around $1,940 to today’s intraday levels of around $1,915. Both of these are still above the 2011 high of $1,910, that was seen as excessive by quite a few pundits.

Regular readers will know that the myth of gold underperforming in rate cycles is just that. In reality, gold has posted gains in nearly every hiking cycle even though higher interest rates are said to be poison for gold’s price.

Part of this comes from markets pricing in rate hikes far ahead of schedule. The remaining parts might be a mystery even to seasoned gold analysts. So the most relevant gold story this year is that gold’s price rose from $1,650 to above $1,900 from spring into summer.

And this is one that is ignored by virtually everyone as we see one bearish headline after another. Outlets wonder day after day why gold is doing so “poorly” even as it approaches its previous all-time high.

Where the price goes from here is equally exciting as the performance has been so far this year. An additional pricing-in of higher interest rates might cause a pullback to spring price levels, which will almost certainly trigger central bank bargain buying. This will, in turn, support prices massively.

By “massively,” I mean that central bank gold buying was 24% of global gold demand last year. Central banks have a lot of money! It’s difficult to overstate their role in the gold market.

In the absence of a conspicuous plummet, especially if gold doesn’t go below $1,800, even more thrills come to the forefront. Is the $1,900 price the new low? Let us not forget that gold’s low price was below $1,100 in 2015.

What, then, can we expect when the real gains materialize?

The 4% CPI figure is a joke (and not an especially funny one)

According to official data, Federal Reserve Chair Jerome Powell’s favorite measure of inflation, Personal Consumption Expenditures, sits at 4.2% and the spike above 7% was mercifully brief. So close are we to the 2% target that one might even wonder if we truly need gold in such a growth environment.

Then, of course, we look under the hood and find that the 4% CPI isn’t exactly indicative of what’s going on in reality. One might say it has nothing to do with it. A deeper look into price increases in individual sectors shows some pretty staggering figures.

The analysis on Confounded Interest calls what we’re about to outline a “huge tax on the middle class.” It’s true that that’s all inflation ever really was, though we must concur that lower-income households are struggling even more. If for no other reason, then because they don’t have the option of escaping the inflationary tax on one’s wealth by investing in gold.

Take a look at prices for essentials over the last two years:

• Prices for food at home: +20%
• Rent: +16%
• Gas: +72%
• Average monthly mortgage payment: +69%

Do your own math. I challenge you to figure out a way to turn this into a 4%-6% annual price increase. Going back three years, food prices are up 25%-30%, but that’s just counting household food still. If you’d like to go and grab something to eat from a restaurant, better be ready to draw on your savings…

The analysis makes a few important points. For starters, inflation is cumulative, so a year of 10% inflation followed by a year of 5% inflation isn’t a victory. It means prices increased by 15% within two years.

Furthermore, it mostly covers the basest of expenses that can’t be cut from a household budget.

A spike in median housing prices from $320,000 to $416,000 in three years’ time might not feel impactful to those with a secured primary residence. But how secure is that residence when we understand electricity prices went from a decade-long 0.13 cents per kilowatt-hour to 0.17 cents (a 31% increase!) in a few months?

Just as we brace ourselves to say gold is more than just an inflation gauge, this data makes us want to reconsider this notion. The persistently elevated gold price in the presence of the worst kinds of headwinds might simply be a note to us that we aren’t getting the full story when it comes to wealth erosion.

Gold in the 1970s, the present day, and the looming BRICS-dominated future

To those of you who might have been disappointed by the lack of a bombastic BRICS currency announcement during the South African summit, don’t be. In what is titled The Bull Market for Gold and Silver: 1970s vs Today, Goehring & Rozencwajg’s team mainly captures our attention with a seemingly unrelated overview.

Adding onto their previous analysis titled The Coming Change in Monetary Regimes, the team places heavy emphasis on central bank gold purchases that have been happening as of late. As they note, it appears very likely that a new monetary system will emerge this decade. That, the BRICS summit had no issue confirming.

Furthermore, the team asserts a move from using the petrodollar for settlement can only really have one substitute:

We believe central banks are preparing for a monetary system where they will settle trade imbalances at least partially using gold instead of dollars. This would be explosively bullish for gold. Prodigious money printing has led to current account imbalances that vastly surpass the value of the world’s gold stock.

Many other interesting points are raised, such as that the by now exceedingly conspicuous dormancy in silver prices is a direct result of a lack of central bank silver purchases. In other words, we might be returning to some kind of normal levels of supply and demand, with massive buying from the official sector dictating the broader market trend.

Regarding their initial headline, the team also believes that the association between gold’s 1970s run and present day is a firm one. If that is true, whatever price action gold owners have celebrated over the part three years will prove insignificant to the dust-settling levels as we move closer towards the end of the decade.

 

 

Peter Reagan is a financial market strategist at Birch Gold Group. As the Precious Metal IRA Specialists, Birch Gold helps Americans protect their retirement savings with physical gold and silver.

 

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