Gold is Golden Once More

Everybody knows that gold is a haven asset. However, during the recent Coronavirus Crisis, all markets appear to have been selling off, and this included gold (see below diagram). Only recently, has gold regained its lustre, soaring in the last couple of weeks once more. The purpose of this article is to try and hypothesise why gold was not acting as a haven asset for a few weeks, and why now it has regained its status as the ultimate safe-haven asset.

Why is Gold a Safe Haven? 
To understand the way which gold has reacted, it first helps to consider why gold actually functions as a safe haven in the first place. The main reason why gold is a haven asset is that it is precisely that; a physical asset. Regardless of any macroeconomic event, gold is still something physical which can be owned, and it has retained its value throughout the millennia.

Secondly, gold is a hedge against inflation. Due to its status as a physical asset, if inflation is expected to rise then it is rational to expect gold prices to rise in line with inflation.

Finally, in the era of fiat currency where our paper money is worth effectively nothing in terms of asset value, if interest rates are near zero you might as well hold gold rather than cash.

Why did gold prices fall from the start of March? 

Financial media has posited a number of reasons why gold price collapsed in March. Firstly, there has been an argument made that because investors were losing so much money that in the rush to liquidate stocks, they had to sell gold to cover the value of their losses - as with any supply increase, this drove down the price.

Secondly, there has been an argument that many people in Asia who hold hereditary gold have been taking advantage of higher prices and selling heirlooms, the extent to which this is true is probably rather small, but it is possible that there was initially some increased supply on the market when gold hit a multiyear high.

Thirdly, and I have no evidence for this; it is just a theory. I believe that the price of gold was driven up before the bulk of the equity market sell-off because investment banks were pre-positioned to anticipate an increase in the price of gold. I.e. They expected the market to fall and for gold to act as a safe haven, so they pre-purchased a large quantity of gold ready to sell to investors. This drove the price up toward the high point seen in the diagram above.

However, when the market rout actually came, the demand for gold was not as high as expected due to the speed of the rout, and therefore banks had to exit their positions. This is entirely hypothesised, but it would also partly explain some of the action in the Treasury market.


Why did gold prices rise in the last few weeks? 

But then, everything changed. Suddenly, the Central Banks of the world stepped on the accelerator regarding monetary stimulus.  The Fed 100 basis points interest rate cut can be seen clearly on the diagram above with the large green candles in the gold price from the 15 March (where the Fed, in an unprecedented manner, could not wait another few days until its policy meeting, instead acting on a Sunday!)

Furthermore, the rich have been worried and there has been a dramatic rush for physical gold. Gold dealers around the world are struggling to find gold to sell, with one stating that if anyone wants to seek bullion, he wishes them all the best, but he cannot deliver.

Gold has restored its haven status, and as more central banks decide to turn the money printer on, it seems only likely that the price of gold will roar higher in the near future.