On Thursday, September 26, gold futures broke through the $2,700 per ounce mark for the first time, driven by geopolitical and economic conditions that prompted three main types of buyers to rush in, pushing gold prices higher and making it the outperforming asset over stocks this year.
In general, when the Federal Reserve cuts interest rates, people tend to buy gold. Joni Teves, a strategist at UBS, wrote in a memo on Monday that a weak dollar, long-term geopolitical risks, and uncertainty surrounding the U.S. presidential election are also driving investors to buy gold.
From the end of 2023 to Thursday’s high point, gold prices rose by $630, marking the largest annual increase on record. The previous record was set in 2020 when the COVID-19 pandemic spread and massive monetary easing policies led to a drop in interest rates, causing gold to rise from the end of 2019 to the year’s high by $566.
Gold prices have risen by about 30% this year, surpassing the S&P 500 index’s roughly 20% increase.
According to reports from media outlets such as Nikkei Asia, gold buyers can be roughly categorized into three types. The first group includes central banks from countries like China, Turkey, and India, whose increased demand has been driven by reducing their dollar reserves and increasing gold reserves, following Russia’s invasion of Ukraine in February 2022 to diversify away from dependence on the dollar.
The second group consists of individual investors from countries like Japan, the U.S., and China, who have increased their gold holdings due to concerns about their domestic economies and inflation, with particular attention on Chinese purchases of gold.
Since the outbreak of the pandemic, the Chinese economy has been sluggish, facing a continued crisis in the real estate sector and weak domestic demand. During times of uncertainty, people tend to flock to buy gold, betting that if the economy falters, gold will better retain its value compared to stocks, bonds, and other assets.
The Fed cut interest rates by 50 basis points last week. Kristina Hooper, Chief Global Market Strategist at Invesco, told CNN, “Investors have been worried that perhaps this 50 basis point cut was a crisis cut, suggesting that the weakness in the U.S. economy may be more severe than is currently being seen.”
The third group consists of institutional investors who are leveraging the U.S. rate cuts to buy, driving the recent rise in gold prices.
In the upcoming November U.S. presidential election, whether it is Vice President Harris or former President Trump, whoever wins is likely to implement expansionary fiscal policies.
Economist Itsuo Toshima told Nikkei that as the U.S. begins to cut interest rates, “the focus of gold prices will shift from U.S. monetary policy to U.S. fiscal policy.”
The expansion of U.S. government debt could also lead to a decrease in confidence in the dollar. Tsuyoshi Ueno, Senior Economist at NLI Research Institute, told Nikkei, “This is a long-term view, but as the base currency, the dollar depreciates, gold may be bought as an alternative currency.”
When gold prices soared to historic highs in 2011, the driving force was fiscal uncertainty in Europe and the U.S., with the S&P downgrading the U.S. sovereign debt rating. As people grow increasingly concerned about relatively safe assets like U.S. Treasuries, funds are more likely to flow into gold.
The Fed’s rate cuts have also increased the attractiveness of gold relative to U.S. bonds. As of 3 pm ET on Tuesday, the yield on 10-year U.S. Treasury bonds was about 3.7%, lower than the 4%+ bond returns investors could get a few months ago.
Will Rhind, CEO of GraniteShares, told CNN, “Currently, the outlook for gold looks very good.”
However, there are warnings in the market against chasing higher prices. Naohiro Niimura, Co-Head of Market Risk Advisory, cautioned that the current rise in gold prices is mainly driven by institutional investors who do not intend to hold long-term positions. He noted, “It is important to be aware that, depending on geopolitical risks and stock market trends, they may become sellers.”