Three reasons why gold is going up

Up five per cent last week and 20 per cent so far in 2016



Gold prices had a solid rally last week. The yellow metal’s price crossed the ₹3,000/gram (for 24 karat) mark on Friday in Mumbai. Just a month back, prices were around ₹2,860-2,880/gram. Prices in the international market close to the magical level of $1,300/ounce. The metal closed at $1,293.5/ounce, up about 5 per cent for the week in New York on Friday. Year-to-date, the metal has rallied over 20 per cent. So, what is driving this rally in gold prices?

Drop in dollar

The rally in gold prices is being driven by a fall in value of the US dollar. The US dollar index, which measures the value of the greenback against other major global currencies, has dropped about 6 per cent since December last year. And, since gold is priced in US dollars it has an inverse relationship with the dollar. But, why is dollar losing muscle? That’s because the chances of more rate hikes from the Fed after the first one in December have been decreasing. While at its March meeting, the Fed cut the market’s expectation of four rate hikes to two, in its April meet, it sounded more cautious, making markets believe that rate hikes might not happen even in June or July. With negative interest rates in Switzerland, Sweden, the Euro Zone, Japan and Denmark, a hike in rates, the Fed thinks, would prove tumultuous as it would see investors move to dollar assets. The Fed doesn’t want a stronger dollar as it hurts the earnings of a large number of American companies that are export-oriented. Last week, with Bank of Japan leaving rates unchanged and surprising the markets with no further stimulus, the yen rallied and the US dollar was hit further.

Weak global economy

With a slew of countries moving to negative interest rate, the safe haven demand for gold is going up. Savings of consumers due to lower prices of fuel and food in the US are finding their way into investments such as gold. SPDR gold trust, the largest gold backed ETF, holds 804.14 tonnes of gold now, up from 630 tonnes in December.

The WGC’s recent report also highlighted that in years of low or negative returns from the debt market, gold returns have been double their long-term average.

The US, which was expected to show stronger economic recovery in 2016, has also started off on a weak note. Data released by the Department of Commerce last week showed that US GDP rose by just 0.5 per cent in the March quarter over the same period last year with drop in both consumer spending and corporate investments.

It is not a great scene in the Euro Zone either. Though economic growth in the March quarter picked up to 0.6 per cent versus expectations of 0.4 per cent, inflation dropped to negative 0.2 per cent in April, down from zero in March. Also, with Bank of Japan’s decision last week to keep policy rates unchanged despite weak inflation and slowing growth, it looks like it will take long for the country to come out of the woods. With the stronger yen now, it may be more difficult to come out of recession.

China’s gold appetite

China’s gold demand is also set to go up. Its new gold benchmark will pave the way for the launch of new gold derivative products by banks. Also, with its objective of diversifying its reserves from dollar and accumulating more gold now clear, the outlook for gold demand has only got stronger. There are also strong signs of economic recovery in China with a pick-up in industrial output and retail sales in March, which can boost consumer spending and, thus, demand for gold this year.

How far till the magical $1,300?

As indicated in these columns (April 25), gold prices had a spectacular rally last week. With prices testing the high of $1,296.8, the possibility of it moving up a further to hit $1,300/1,305 this week is high. But, there could be lot of resistance before prices reach $1,305. So, watch out. On the downside, the support is now at around $1,230.

Gold futures in the domestic market, too, witnessed a strong rally. The MCX gold futures contract closed at ₹30,266, up 4.3 per cent for the week. With the rupee almost flat, the gains were all thanks to the uptrend in international prices. Now that the contract has crossed ₹30,000-levels, this week, it may try to move past the resistance around ₹30,400/30,500 to the target of ₹31,000. MCX Silver futures contract too may well move up, targeting ₹42,000 levels. Supports are at ₹39,700 and ₹38,300.

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